
Class i i u p 

Book._ <_Ajl_ 

&pyrightN°._ _ 

COKRIGHT DEPOSIT. 



STANDARD BANKING 




American Institute of Banking 

Section American Bankers Association 
Five Nassau Street New York City 






Copyrigth, 1921 

by 

American Institute of Banking 



SEP -8 1921 
©CI.A624231 



PREFACE 



STANDARD BANKING" aims to combine banking 
principles and banking practices. Some of the material 
used in previous publications of the American Institute 
of Banking — material that has stood the test of time and 
experience — has been utilized in revised form in this work. 
To such material much original matter has been added. The 
result of such combination is a new text-book adapted alike to 
class and correspondence instruction. The work of preparing 
"Standard Banking" has been done jointly by E. W. Kem- 
merer, Professor of Economics and Finance in Princeton 
University; George E. Allen, Educational Director of the 
American Institute of Banking, and other officers of the Insti- 
tute. Other professional educators and practical bankers have 
participated in the work of composition and revision. Among 
those to whom particular credit is due are : C. W. Allendoerf er, 
Vice-President of the First National Bank of Kansas City; 
Robert H. Bean, Executive Secretary of the American Ac- 
ceptance Council; Godfrey F. Berger, Bank Examiner in the 
New York State Banking Department; James B. Birmingham, 
Assistant Cashier of the National City Bank of New York; 
Edward M. Earle, Department of Extension Teaching of 
Columbia University; Fred W. Ellsworth, Vice-President of 
the Hibernia Bank and Trust Company of New Orleans; 
William Feick, Assistant Cashier of the Irving National Bank 
of New York; B. L. Gill, Vice-President of the Seaboard 
National Bank of New York; George A. Kinney, Trust Officer 
of the Chase National Bank of New York; Ernest T. Love, 
Assistant Cashier of the Chase National Bank of New York; 
Fred L. O'Hair, Assistant Cashier of the National City Bank 
of New York; Thomas B. Paton, General Counsel of the 
American Bankers Association ; Gardner B. Perry, Vice-Presi- 
dent of the American Trading Company of New York ; James 
Rattray, Assistant Vice-President of the Guaranty Company 
of New York; O. M. W. Sprague, Professor of Banking and 
Finance in Harvard University; and Wilbert Ward, Assistant 
Cashier of the National City Bank of New York. 



INSTITUTE PLATFORM 



RESOLUTION adopted at the New Orleans Convention 
of the American Institute of Banking, October 9, 1919 : 
"Ours is an educational association organized for 
the benefit of the banking fraternity of the country and within 
our membership may be found on an equal basis both em- 
ployees and employers; and in full appreciation of the oppor- 
tunities which our country and its established institutions 
afford, and especially in appreciation of the fact that the 
profession of banking affords to its diligent and loyal members 
especial opportunities for promotion to official and managerial 
positions, and that as a result of the establishment and main- 
tenance of the merit system in most banks a large number 
of Institute members have through individual application 
achieved marked professional success, we at all times and 
under all circumstances stand for the merit system and for 
the paying of salaries according to the value of the service 
rendered. 

"We believe in the equitable cooperation of employees 
and employers and are opposed to all attempts to limit indi- 
vidual initiative and curtail production, and, insofar as our 
profession is concerned, are unalterably opposed to any plan 
purporting to promote the material welfare of our members, 
individually or collectively, on any other basis than that of 
efficiency, loyalty and unadulterated Americanism." 



CONTENTS 

CHAPTER PAGE 

I. Money 7 

II. Credit 44 

III. Banks and Banking 76 

IV. Bank Operation 120 

V. Collections 218 

VI. Loans and Discounts 253 

VII. Collateral Loans 279 

VIII. Agricultural Loans 311 

IX. Acceptances 347 

X. Stocks and Bonds 379 

XI. Systems of Banking 415 

XII. International Exchange 442 



WHO IS A BANKER? 



A SUCCESSFUL BANKER is 
composed of about one-fifth 
accountant, two-fifths lawyer, three- 
fifths political economist, and four- 
fifths gentleman and scholar — total 
ten-fifths — double size. Any smaller 
person may be a pawnbroker or 
a promoter, but not a banker. — 
George E. Allen. 



Standard Banking 

CHAPTER I 
Money 

MONEY is a comparatively modern device. Our 
earliest record of coined money dates back to 
only the seventh century before Christ. 
Goods were exchanged long before money existed. 
The exchange of one commodity for another when 
neither commodity is money is called barter. For 
thousands of years of the world's history barter was 
the usual method of exchange. The savage exchanged 
a stone axe for a shell necklace, or a few arrow-heads 
for a fox skin. Barter is still practiced on a large 
scale in the more backward parts of the world, as in 
Central Africa, the interior communities of China and 
many parts of Russia. In our own country it is not 
unknown. Farmers still exchange eggs and butter 
for groceries, and often give the local miller grain for 
grinding their wheat into flour. Automobiles are ex- 
changed. Domestic servants receive a substantial 
percentage of their compensation in the form of board 
and lodging. 

LIMITATIONS OF BARTER.— As the popu- 
lation grows and the number of goods to be ex- 
changed increases, barter tends to break down. The 
chief trouble with it is what is known as "lack of 
double coincidence" in desires. One savage, for ex- 



8 STANDARD BANKING 

ample, may have a fox skin that he wishes to ex- 
change for arrow heads ; the second savage, however, 
who has a good supply of arrow heads, may not want 
a fox skin at all, but may want a shell necklace, so 
that an exchange is impossible. For effective barter 
not only must A want what B has to give, but B must 
want what A has to give; and the wants must be for 
such quantities of the respective articles as to make 
an exchange possible and desirable for both parties. 
Under a barter economy some kinds of articles that 
are in widespread demand are more easily exchanged 
than others. Arrow heads and ornamental shells, for 
example, may be in great demand among a primitive 
hunting people, cattle and sheep among a pastoral 
people, and grain among an agricultural people. In 
each case the man who has a supply of the most high- 
ly desired article is likely to find no difficulty in ex- 
changing it for the other things he wants. It is the 
man who has the article that very few people want and 
who wants an article that very few people have, who 
has the most difficulty in a barter regime. Often his 
only way of getting the desired article is by a round- 
about series of exchanges. If he wants to exchange 
article A for article F, but finds that none of the peo- 
ple who have F care anything about A, he may be 
able to exchange A for B, an article of limited popu- 
larity, but still more widely desired than A, and then 
be able to exchange B for C, an article of somewhat 
greater popularity, and then C for D, an article of 
great popularity — perhaps ornamental beads — and 
then he will have no difficulty in finding some pos- 



STANDARD BANKING 9 

sessor of article F that will be glad to part with it 
for D. Such roundabout exchanges are common in 
primitive communities. 

MEANING OF MONEY.— In this way people 
come to understand that, from the standpoint of get- 
ting what one wants by barter, it is a wise policy to 
keep a part of one's wealth always in the form of one 
of these widely desired and highly exchangeable arti- 
cles, and this may even be true of people who have no 
desire to use for their direct needs any more of the 
particular article. A hunter, for example, may have 
all the arrow heads he needs for his own hunting and 
yet be glad to accumulate more for purposes of ex- 
change, after he learns that arrow heads are highly 
exchangeable. In this way articles of a high degree 
of exchangeability come to serve as common media 
of exchange. People receive them for the most part, 
not with the idea of using them directly, but of pass- 
ing them on to others in exchange for what they 
want. This was true of wampum beads among some 
of the North American Indians, of furs in the Hudson 
Bay Colony, of arrow heads in parts of Mexico, and 
of cattle among the patriarchs of the Old Testament 
and in Homeric times. It was true also of tobacco in 
Colonial Virginia. When one of these articles reaches 
such a high degree of exchangeability as to become a 
common medium of exchange, it becomes money. 
Following the lead of Francis A. Walker, therefore, 
we may say that "money is as money does," and that 
the first and most fundamental thing that money 
does, the thing that constitutes it money, is to serve 



10 STANDARD BANKING 

as a common and generally accepted medium of ex- 
change for goods and services, a medium that is readi- 
ly accepted without reference to the character or 
credit of the person who offers it. Other functions 
of money, all of which are derived from this primary 
function, are (1) common measure of value, (2) 
standard of deferred payments, (3) storehouse of 
value, and (4) bank reserves. 

COMMON MEASURE OF VALUE. — We 
measure length in terms of a unit of length that we 
call the foot or the meter ; we measure weight in terms 
of a unit of weight that we call the pound or the kilo- 
gram, and we measure value in terms of a unit of 
value that we call in the United States the dollar. 
We know how much the dollar is worth because in 
using dollars as media of exchange we are continually 
comparing dollars with the values of all sorts of goods 
which we are buying or selling. We are testing out 
its value every day in the process of exchange. Every 
time we buy an article for money we measure the 
value of the article by the money given ; so also does 
the seller of the article. In serving as a common me- 
dium of exchange, therefore, money becomes a com- 
mon measure of value. We measure and express the 
values of all commodities in terms of the value of the 
dollar. 

STANDARD OF DEFERRED PAYMENTS. 
— Deferred payments are payments that are post- 
poned. A purchase or sale is a two-sided proposition. 
If the seller receives his money at the time he delivers 
the goods, we call the transaction a cash transaction ; 



STANDARD BANKING 11 

if, on the other hand, he delivers the goods today and 
does not receive payment on delivery, a debt is created 
and this debt is expressed in terms of money. The 
payment is deferred and the money becomes the 
standard by which the amount of the debt in the 
meantime is measured and expressed. While debts 
might be measured in bushels of wheat or tons of coal 
or any other standard commodity, we know as a mat- 
ter of fact that they nearly always are measured in 
money. This is true because money, by reason of its 
great exchangeability, is the thing which it is the 
safest for creditors and debtors to commit themselves 
to as a means of future payment. The importance of 
this standard of deferred payment function will be ap- 
preciated if we consider the hundreds of billions of 
dollars worth of debts in the world today — book ac- 
counts, bonds and mortgages, insurance contracts, 
bank deposits, bank loans, etc. 

STOREHOUSE OF VALUE.— Another func- 
tion of money is that of serving as a store house of 
value. By this is meant that people keep a part of 
their wealth — the miser, most of his — in the form of 
money. Sometimes money is hoarded for long 
periods; more often it is kept only short periods and 
then passed on in exchange for goods. The average 
length of time that most of us keep a piece of money 
in our pockets now-a-days is very short; but to the 
extent that we do hold wealth in the form of actual 
money, whether it be for a week or for ten years, we 
are using it as a storehouse of value. We use money 
as a storehouse of value because of its high degree 



12 STANDARD BANKING 

of exchangeability, because, of all goods, money is 
the most marketable. 

BANK RESERVES.— The last function of 
money to be considered is that of serving as bank 
reserves. This is one of the most important func- 
tions of money, but it is one that can better be under- 
stood after we have studied the functions of a bank. 
Bank deposits and bank notes are usually payable on 
demand in legal tender money, and banks must there- 
fore always have a certain amount of such money 
available to meet the demands of their creditors. The 
cash held for this purpose is called "bank reserve" in 
the United States, and "cash balance" in England and 
many other countries. Naturally a bank holds its 
reserve in the commodity that is used as a common 
medium of exchange, namely, money, because the 
public wishes its deposits to be paid in the most 
highly exchangeable commodity possible. 

VALUE OF MONEY.— By value of money is 
meant the market value of the actual monetary unit 
(not necessarily the legal unit) as expressed in its 
purchasing power over goods and services. The 
value of the dollar is expressed in what the dollar will 
buy. If the prices of everything should suddenly be 
doubled, the value of the dollar, namely, its purchas- 
ing power, would be cut in half; and if the prices of 
everything should suddenly be cut in half, the value 
of the dollar would be doubled. It is for the purpose 
of buying goods and services that we want dollars, 
and the value of the dollar varies, therefore, in pro- 
portion to amount of goods and services it will buy. 



STANDARD BANKING 13 

DEMAND AND SUPPLY. — The. value of 
money, like the value of every other commodity — for 
money is only a commodity of a particular kind — is 
the resultant of the interaction of the forces of demand 
and supply. In the days when cowrie shells or wam- 
pum were used as money among the Indians, the 
number of shells required to buy a bear skin, a toma- 
hawk, or a dozen arrow heads depended upon the 
number of bear skins, tomahawks and arrow heads 
there were available for exchange, and equally upon 
the number of cowrie shells there were available. At 
times, when through the discoveries of some fortu- 
nate persons a large additional supply of cowrie shells 
was thrown on the market, prices in terms of cowrie 
shells would rise; on the other hand, when the supply 
of cowrie shells dwindled because few new ones were 
being found and the old ones were being lost or 
broken, paid out to other tribes, or diverted to uses 
as ornaments, prices of goods in terms of cowrie shells 
would fall. If the supply of cowrie shells remained 
unchanged, while the number of skins, tomahawks, 
arrow heads, etc., that the members of the tribe had 
to buy and sell, increased, prices fell, because at the 
old prices there were not enough cowrie shells to go 
around in effecting the exchanges of an increased 
number of goods. 

UNIVERSALITY OF DEMAND. — Cowrie 
shells were first used only as ornaments, namely for 
necklaces, bracelets, and bangles. The universal de- 
mand for ornaments among the Indian tribes using 
them made the cowrie shell a highly exchangeable 



14 STANDARD BANKING 

commodity. In time, therefore, the shells became a 
common medium of exchange, and therefore money 
in trade among the Indians themselves and between 
the Indians and the colonists. Their value was cre- 
ated by two sorts of demand ; the demand for them as 
ornaments, and the demand for them as media of ex- 
change. With either demand removed, their value 
would have been less. Had the supply of these shells 
been strictly limited, and had their use as ornaments 
fallen out of favor, the money demand alone would 
have been sufficient to give them a value, and that 
value would have been the result of the interaction of 
the forces of demand for shell money and the supply 
of shell money. A sudden doubling of the supply of 
shells would have greatly enhanced prices and like- 
wise would a wholesale destruction, through forest 
fire or otherwise, of the supply of marketable goods, 
assuming the supply of shell money to be unchanged. 
MARKET PRICE.— If we eliminate exchanges 
by barter, and assume that all exchanges were 
effected by the payment of shell money by the buyer 
to the seller, it will be seen that if an increasing num- 
ber of Indians who had shell money wanted toma- 
hawks, their desire for tomahawks, coupled with the 
facts that they had the wherewithal to pay for them 
and the willingness to pay, would have put up the 
prices of tomahawks. The diversion of this effective 
demand from other things to tomahawks would have 
tended to depress the price of other things. When 
an article is sold for cash, the article passes from 
seller to buyer and the money representing the price 



STANDARD BANKING 15 

passes from buyer to seller. The price is the number 
of money units (in this case cowrie shells) that is 
given for the article, and a real market price does not 
exist until the exchange is made, for the proof of the 
price is in the exchange. If the would-be seller of a 
tomahawk asks fifty shells for it, and the would-be 
buyer offers thirty, there is no method of determining 
what the market price is. These are merely "bid" 
and "asked" prices. When and if, however, they agree 
on forty-two shells, and a sale for that amount is ef- 
fected, that price emerges as the real market price of 
a tomahawk. The more shells the would-be buyers 
of tomahawks have and the fewer tomahawks there 
are on the market, the higher the subjective prices the 
would-be buyers are willing to bid, the higher the 
subjective prices the would-be sellers will ask, and the 
higher will be the resulting market price. 

RATE OF TURNOVER.— In this connection 
it should be noticed that the amount of exchange 
work a given number of cowrie shells can perform de- 
pends upon the number of times the shells exchange 
hands, or upon what is known as their "rate of turn- 
over." A hundred shells exchanging hands for goods 
twice in a year and lying idle the rest of the time do 
200 units of money work in a year, while another hun- 
dred that exchange hands for goods ten times in a 
year do 1000 units of money work, and therefore are 
five times as efficient as the first hundred. The ef- 
fective shell money supply is obviously increased as 
truly by increasing the average rate of turnover, with 
the quant>y of shells remaining constant, as it is by 



16 STANDARD BANKING 

increasing the number of shells, with the average rate 
of turnover remaining constant. It is only the shells 
that are passed from hand to hand as money that di- 
rectly affect prices. Shells used continually as orna- 
ments have no effect on prices, except as their pur- 
chase and sale as commodities give rise to a demand 
for shell money for making payments. If, however, 
prices should fall and shells as money should become 
more valuable than some of the shells used as orna- 
ments, ornaments would be broken up by the Indians 
in order that they might get the shells for money. 
These shells would then influence prices because they 
would increase the supply of shell money. The op- 
posite is likewise true. An increased demand for shell 
ornaments might lead to the transfer of some shells 
from money uses to ornament uses and thereby reduce 
the supply of shell money, increase the value of the 
shell monetary unit, and reduce prices. 

QUANTITY THEORY OF MONEY. — The 
average price of goods sold is equivalent to the 
amount of money in circulation multiplied by its 
average rate of turnover and divided by the number 
of commodity units exchanged. While some prices at 
any particular time are rising and some are falling, 
the general price level obviously cannot change ex- 
cept through changes in one or more of the three fac- 
tors: (1) Money in circulation; (2) rate of monetary 
turnover, and (3) number of commodity units sold. 
Here we have the law of demand and supply in its 
simplest form applied to a regime in which only one 
kind of money circulates and in which credit is un- 



STANDARD BANKING 17 

known. This expression of the law of demand and 
supply in its application to money is the simplest for- 
mulation of what is known as the "quantity theory of 
money." 

QUANTITY THEORY AND GOLD COIN.— 
So far we have been assuming that all the money in 
circulation consisted entirely of cowrie shells. The 
principle would not be changed by assuming that the 
money, instead of consisting of beautiful shells found 
in the country in limited quantities and useful also as 
ornaments, consisted of small pieces of gold. We as- 
sume that the gold instead of cowrie shells was found 
in the territory of this tribe, that it was in wide de- 
mand for ornaments because of its beauty, and that 
because of the universal demand for it for ornaments, 
it became the most highly exchangeable commodity 
among the members of the tribe, and therefore be- 
came money. Assume that, to simplify exchanges by 
means of this money through avoiding the necessity 
of weighing the gold at each transaction, and of test- 
ing its purity, the chief of the tribe made provisions 
for putting up the gold in small round discs of uni- 
form size weighing 10 grains each, and bearing his 
stamp as a guarantee that they were of full weight 
and contained pure gold. Assume that anyone who 
had gold could take it to the chief and have it cut into 
discs and stamped, without charge, and that there 
was nothing to prevent the use of these discs for 
bracelets, necklaces, etc., or to prevent their being 
melted down for other purposes whenever the owner 
so desired. The conditions then would be practically 



M 



18 STANDARD BANKING 

identical with those assumed for the isolated Indian 
tribe whose money was exclusively cowrie shells, but 
we would have a tribe with a gold standard currency, 
free coinage and coined money. The law of demand 
and supply would apply here just as truly as it did in 
the case of the cowrie shell money. 

STANDARD COMMODITY MONEY.— For 
convenience let us call this ten grain gold disc a dollar 
(although its gold value would be only about $0,43 of 
United States money). Obviously the value of 10 
grains of pure gold and the value of a gold dollar 
would be practically the same thing under such con- 
ditions, just as the value of 10 cowrie shells as money 
and of 10 cowrie shells as ornaments would be the 
same thing, because, in both instances, they would be 
interchangeable without loss. Double the amount 
of gold, other things equal, and its value would 
go down, prices rising ; cut the amount of gold in half, 
other things equal, and its value would rise, prices 
falling. As long as gold as money and gold as bul- 
lion were interconvertible without expense, 10 grains 
of gold in one form could not be appreciably more or 
less valuable than 10 grains in the other. This would 
be what is called standard commodity money, and 
would be essentially like our United States gold coins 
of today. 

PAPER MONEY AND GOLD COIN.— Let 
us suppose that the tribe in which these gold dollars 
are circulating is growing in population and in wealth, 
so that every year it needs more coin to carry on its 
business at the old price level, and assume that the 



STANDARD BANKING 19 

supply of new gold available is being exhausted ; then 
prices would tend downward. This increase in the 
value of gold arising from the fact that the monetary 
demand is increasing while the supply of money is re- 
maining constant might be prevented by introducing 
Into circulation a cheaper money as a substitute for 
some of the gold. Invariably, the introduction of a 
substitute in place of the real thing tends to lessen the 
value of the real thing. Suppose the original circula- 
tion in this tribe to have been $100,000, and assume 
that the number of goods to be exchanged should be 
increased 25 per cent. Unless the rate of monetary 
turnover should change, prices would have to fall on 
an average 20 per cent in order to make possible the 
effecting of the increased amount of exchange work 
with the original amount of money. But suppose the 
government should issue $50,000 of paper money, 
withdrawing from circulation $25,000 of gold coin, as 
a gold reserve, and assume that a gold reserve averag- 
ing that amount would be adequate as a redemption 
fund, to maintain the gold parity of this $50,000 paper. 
Then the price level would be unchanged, for the net 
circulation would have increased from $100,000 to 
$125,000, while the physical amount of business to be 
done would have increased in exactly the same pro- 
portion. 

MONEY AND PRICES.— If $50,000 of gold 
should be withdrawn from circulation and placed in 
reserve against an issue of $100,000 of paper money, 
there would be a net increase in the circulation of $50,- 
000 representing $25,000 more money than necessary 



^"" 



20 STANDARD BANKING 

to compensate for the growth in the physical volume 
of business. This would cheapen the dollar as com- 
pared with goods — both the gold dollar and the paper 
dollar, because they would be interchangeable — and 
cause a rise in prices. The fact that the introduction 
of these paper dollar substitutes for gold coin had 
pushed down the value of gold money would lead to 
the melting down of some of the gold money to pro- 
vide gold for ornaments. The important fact to note is 
that the introduction of paper money substitutes for 
gold coin as media of exchange tends to increase the 
supply of money, to push down the value of gold and 
to push up prices. It increases the total amount of 
money in circulation and usually forces an extra sup- 
ply of gold into the merchandise uses. Whether the 
substitute is paper money, silver money, copper 
money, or bank checks, makes no difference as regards 
this principle. 

GRESHAM'S LAW.— If the cheaper money is 
issued to excess, prices rise unduly and the public 
loses confidence in the new money. Paper money is 
presented in increasing quantities at the reserve fund 
offices for redemption in gold coin and gold is prompt- 
ly hoarded or used as ornaments in increasing quanti- 
ties. If the reserve is exhausted before confidence is 
restored, the paper money becomes inconvertible. 
People will always use the cheaper money in place of 
the dearer money in paying debts and buying goods 
if it will go as far. When money is issued in excess, 
a cheaper money tends to drive a dearer money out 
of circulation. This is known as Gresham's Law. It 



STANDARD BANKING 



21 



is merely an instance of an article of trade (money) 
seeking the best market. 

INCONVERTIBLE PAPER MONEY.— Un- 
der such circumstances, however, the inconvertible 
paper money would continue to circulate. Business 
must be carried on and there is no other exchange 
medium available. The need of some medium of ex- 
change is imperative. There may be a slight resort 
to barter, but for most exchanges barter is cumber- 
some to the point of being prohibitive. The suspen- 
sion of gold payments will bring a new element of un- 
certainty into business, and cause injustice and hard- 
ship to some classes, notably creditors, and people 
living on fixed incomes. It may retard somewhat the 
amount of business development and activity but it 
will not stop business. The value of the paper money, 
like the value of other kinds of money, will be de- 
termined by the law of demand and supply. If the 
supply of paper dollars is limited, business will grad- 
ually recover from the shock, and as business in- 
creases the value of the paper dollar will rise and in 
time perhaps again reach the gold par. This is true 
even if there are no promises of future redemption in 
gold. Promises or prospects of such redemption in 
the future, however, strengthen public confidence, 
give the paper money an investment value, and 
through influencing the demand for the money, tend 
to increase its value. If this inconvertible paper 
money is issued in increasing quantities and out 
of all proportion to the increase in the physical vol- 
ume of trade — as there is always a great danger that 



■" 



22 STANDARD BANKING 

it will be — it will depreciate rapidly and at an acceler- 
ating rate. The increased supply itself will lessen the 
value; it will also greatly depress business and there- 
by lessen the supply of goods placed on the market 
to be exchanged. 

LAW OR DEMAND AND SUPPLY FUNDA- 
MENTAL. — The fundamental fact to bear in mind 
in studying the value of money is that the law of 
demand and supply applies to money as truly as to 
all other commodities. To this law everything else, 
including the value of the bullion in the coin and con- 
vertibility or inconvertibility, is secondary. These 
other factors affect the value of money only through 
influencing the supply of money relative to the de- 
mand for money. 

Kinds of Money 

STANDARD AND NON-STANDARD 
MONEY. — Money may be classified as standard 
money and non-standard money. Standard money 
is money that stands on its own bottom. It inde- 
pendently represents the unit of value, and to its 
value the values of other kinds of money conform, 
rising as it rises and falling as it falls. All money 
that is not standard money is non-standard money 
and depends for its value largely on standard money. 
Standard money may be commodity money or 
fiduciary money. Commodity money is money the 
value of whose content as a commodity is practically 
equivalent to its value in the form of money. The 
cowrie shell money in our original illustration was 



STANDARD BANKING 23 

commodity money, for the value of the shells as com- 
modities for ornaments was the same as their value 
as money. Gold coin is standard commodity money in 
the United States. It is commodity money because 
each gold coin (unless worn) is worth practically the 
same amount as gold as it is as money. Anyone can 
take 258 grains of standard gold (namely, gold .900 
fine) to any United States mint and receive without 
charge for coinage a ten dollar gold piece for it; and 
if one melts down a new ten dollar gold piece, he will 
get from it ten dollars worth of gold bullion. Gold 
coin is standard money because it independently em- 
bodies the unit of value and because all of our other 
kinds of money, namely, paper money, silver money, 
copper money and nickel money, have their values de- 
termined by the value of the gold dollar. So long as 
we maintain the gold standard, whenever the value of 
gold rises the value of our gold dollar rises, and with 
it and exactly to the same extent the value of a dollar 
of every kind of money in circulation in the United 
States, regardless of variations in the value of the ma- 
terial (e. g., silver and copper) out of which the other 
money is made. In a silver standard country like 
China it is the ups and downs of silver that determine 
the value of the standard dollar and of all other forms 
of money with which the standard dollar is inter- 
changeable. A country whose unit of value consists 
of commodity money made of gold is called a mono- 
metallic gold standard country and one whose unit of 
value consists of commodity money made of silver is 
called a monometallic silver standard country. 



24 STANDARD BANKING 

BIMETALLIC STANDARDS.— Until the early 
seventies of the last century there were a number of 
countries, of which France was the most important 
example, which had a double metallic standard, using 
both gold and silver indifferently as standard money 
and giving both kinds of money unlimited legal ten- 
der powers. Such a standard is known as a bimetallic 
standard. When maintained by one country alone, 
the system is known as national bimetallism, and 
when two or more countries are leagued together for 
maintaining such a standard as was France with the 
other states of the Latin Union (Belgium, Switzer- 
land and Italy) from 1865 to 1873, the system is called 
international bimetallism. A century ago most of the 
leading countries of the world had bimetallic stand- 
ards, but true bimetallism no longer exists. The the- 
ory and history of bimetallism are important and in- 
teresting but a discussion of them falls outside the 
province of this volume. 

FIDUCIARY STANDARD MONEY. — The 
other class of standard money is fiduciary standard 
money. It is different from commodity standard 
money in that it has a value substantially greater than 
the value as a commodity of the material of which it 
is made. Good examples of fiduciary standard money 
are the Indian rupee from 1893 to 1898 and the United 
States greenback from 1862 to 1879. The Indian 
rupee contains 180 grains of silver 11/12 fine. Prior 
to 1893 there was free coinage of silver in India. In 
other words, anyone could take one hundred and 
eighty grains of standard silver to the Indian mints 



STANDARD BANKING 25 

and obtain a rupee for them, paying only a slight 
charge of two per cent, called "brassage," to cover the 
expenses of coinage. The rupee was silver standard 
commodity money. In June, 1893, the Indian gov- 
ernment closed the mints of India to the free coinage 
of silver and from 1893 to 1898 there was little in- 
crease in the number of rupees in circulation in India. 
Meanwhile the population of India grew, business in- 
creased and the demand for money became greater. 
Inasmuch as the supply of money was practically con- 
stant the value of money rose although during those 
years the price of silver was declining. By January, 
1898, the gold value of the silver in the rupee had de- 
clined to about 10 pence of British gold, and the 
money value of the rupee had increased to the equiva- 
lent of about 16 pence of British gold. Later the Brit- 
ish government fixed the gold value of the rupee at 16 
pence by making it practically interchangeable with 
gold at approximately that rate; but until that was 
done, the rupee was a fiduciary standard coin, its value 
depending upon the supply of money and the demand 
for money, with practically no regard to the value of 
its silver content. The value of a rupee of Indian 
non-standard money, namely, paper money, and frac- 
tional coins, moved up or down with the value of the 
rupee. Practically all prices and wages were quoted 
in terms of this rupee. 

GREENBACK EXPERIENCE. — During the 
Civil War the United States issued several hundred 
million dollars of so-called United States Notes or 
"greenbacks." These paper money notes were not 



26 STANDARD BANKING 

redeemable in gold from the time of their original 
issue in 1862 to Jan. 1, 1879. Their value in terms of 
gold greatly depreciated, at one time reaching the 
low figure of thirty-five cents gold to a dollar of green- 
backs. Meanwhile under the force of Gresham's Law 
the greenbacks drove out of circulation throughout 
the greater part of the United States practically all 
gold and silver coin. The real money of trade, except 
on the Pacific Coast, where gold continued to circu- 
late, was almost entirely greenbacks and bank notes 
redeemable in greenbacks. Prices were quoted in 
greenbacks, and when one used the term dollar, it was 
understood that he meant a greenback dollar except 
in the rare cases when he specifically mentioned a gold 
dollar. The greenback dollar during those years was 
the actual standard of value although itself varying in 
value from day to day as the result of the interaction 
of the forces of demand and supply. Legally the coun- 
try was on a bimetallic commodity money standard 
but actually it was on a fiduciary money greenback 
standard. 

STABILITY OF VALUE.— The first require- 
ment of a good monetary system is that the monetary 
unit shall be reasonably stable in its value, that is, in 
its purchasing power over commodities in general. A 
monetary unit whose purchasing power over com- 
modities in general is continually undergoing great 
changes is bound to work injustice in a country 
where there are large amounts of long-time debts. If 
the value of the dollar declines rapidly, as it did be- 
tween 1896 and 1920, the creditor suffers in being paid 



STANDARD BANKING 27 

back the principal of his debt in a less valuable dollar 
than he lent, and presumably in receiving for his in- 
terest dollars of less value than he contemplated when 
he made the loan contract. If the dollar rises rapidly 
in its value as it did between 1873 and 1895, the cred- 
itor benefits and the debtor suffers. A reasonably 
stable unit of value is a requisite of any good currency 
system. It is, however, exceedingly difficult to attain. 
Neither gold or silver has so far met this requirement 
very well and the world has the problem yet to solve. 

ELASTICITY OF VOLUME.— A second re- 
quirement, one that is closely related to the first and 
necessary to its complete realization, is the require- 
ment of elasticity. The amount of money work to be 
done in a country varies from season to season and 
from year to year. In an agricultural country, for 
example, more money is needed during the crop-mov- 
ing months than during the agriculturally slack 
months of the winter. Periods of prosperity demand 
more money than periods of business depression. An 
ideal currency system is one that contains one or more 
elastic elements that enable the volume of currency 
to increase as trade demands increase, and to de- 
crease as trade demands decrease, without necessi- 
tating substantial changes in prices. The elastic 
elements in the currency are usually the standard 
coins (namely, gold coins in gold standard countries 
and the larger silver coins in silver standard coun- 
tries) and bank notes. 

DURABILITY AND CONVENIENCE. — 
Among the other requirements of a good currency 



28 STANDARD BANKING 

system the following are worthy of mention. The 
different kinds and denominations of money should be 
of sizes convenient to handle and transport. The de- 
nominations should be of a character easy to compute, 
which means that they should be chiefly on a decimal 
basis. The various kinds of money should be durable 
and in other respects as inexpensive to make and to 
administer as possible, consistent with the realization 
of the other important requirements. They should be 
of such a quality of workmanship that they cannot be 
easily counterfeited. And, finally, they should be 
beautiful in design. 

LEGAL TENDER.— The term "legal tender" is 
applied to money that is legally tenderable in payment 
of debts, unless the contract calls for payment in some 
specified kind of money, as, for example, "gold coins 
of the present standard of weight and fineness." A 
debt calling for the payment of "one thousand dollars" 
may be paid in any kind of money that is unlimited 
legal tender, as, for example, United States notes, sil- 
ver dollars, gold coins and gold certificates. Contracts, 
however, calling for payment in gold coin, or in silver 
dollars, or in any other kind of money, must be paid 
in the kind of money specified regardless of what may 
be legal tender. As long as the different kinds of 
money in circulation are maintained on a parity with 
gold as they are in the United States today, and as the 
Gold Standard Act of 1900 requires them to be, the 
question of legal tender seldom rises. It becomes im- 
portant, however, in times like the greenback period 
from 1862 to 1879, when the money of current use is 



STANDARD BANKING 29 

at a discount in terms of the legal standard money. 
It was during this greenback period that the United 
States Supreme Court in a series of famous cases, 
known as the "legal tender cases," settled the Ameri- 
can interpretation of the legal tender quality. The 
chief of these cases were Lane County v. Oregon 
(1868) 7 Wallace 71; Bank v. Supervisors (1868) 7 
Wallace 26; Bronson v. Rodes (1868) 7 Wallace 229; 
Hepburn v. Griswold (1869) 8 Wallace 603; Knox v. 
Lee (1870) 12 Wallace 457; Juilliard v. Greenman 
(1884) 110 U. S. Reports 421. Fractional coins are 
usually made legal tender only to a limited amount in 
one payment, the object being to make it possible to 
pay fractional sums in legal tender money, but to 
prevent a debtor from unloading on his creditor an 
unreasonable amount of fractional money. 

United States Money 

ELEVEN DIFFERENT KINDS.— There are 
eleven different kinds of money in circulation in the 
United States, namely, gold coins, standard silver 
dollars, subsidiary silver, gold certificates, silver cer- 
tificates, Treasury notes issued under the act of July 
14, 1890, United States notes (also called greenbacks 
and legal tenders), National bank notes, Fed- 
eral Reserve notes, Federal Reserve Bank notes, 
and nickel and bronze coins. While they do not all 
possess the full legal-tender quality, each kind has 
such attributes as to give it currency. Gold coin is 
legal tender at its nominal or face value for all debts, 
public and private, when not below the standard 



30 STANDARD BANKING 

weight and limit of tolerance prescribed by law; 
and when below such standard and limit of toler- 
ance it is legal tender in proportion to its weight. 
Standard silver dollars are legal tender at their nom- 
inal or face value in payment of all debts, public and 
private, without regard to the amount, except where 
otherwise expressly stipulated in the contract. Sub- 
sidiary silver is legal tender for amounts not exceed- 
ing $10 in any one payment. Treasury notes of the 
act of July 14, 1890, are legal tender for all debts, pub- 
lic and private, except where otherwise expressly stip- 
ulated in the contract. United States notes are legal 
tender for all debts, public and private, except duties 
on imports and interest on the public debt. United 
States notes, upon resumption of specie payments, 
January 1, 1879, became acceptable in payment of 
duties on imports and have been freely received on 
that account since the above date, but the law has 
not been changed. Gold certificates are unlimited 
legal tender. Silver certificates and National bank 
notes are not legal tender. Silver certificates are 
receivable for all public dues, while National bank 
notes are receivable for all public dues except duties 
on imports, and may be paid out by the Government 
for all salaries and other debts and demands owing 
by the United States to individuals, corporations and 
associations within the United States, except interest 
on the public debt and in redemption of the National 
currency. All national banks are required by law to 
receive the notes of other national banks at par. The 
minor coins of nickel and copper are legal tender to 



STANDARD BANKING 31 

the extent of 25 cents. Foreign coins are not legal 
tender. 

GOLD COINS.— While the gold dollar is the 
unit and standard of value, the actual coinage of the 
$1 piece was discontinued under authority of the act 
of September 26, 1890. Gold is now coined in de- 
nominations of $2.50, $5, $10, and $20, called, respec- 
tively, quarter eagles, half eagles, eagles, and double 
eagles. 

SILVER COINS.— The standard silver dollar 
was first authorized by the act of April 2, 1792. Its 
weight was 416 grains .8924 fine. It contained the 
same quantity of fine silver as the present dollar, 
whose weight and fineness were established by the 
act of January 18, 1837. The coinage of the standard 
silver dollar was discontinued by the act of February 
12, 1873, and it was restored by the act of February 
28, 1878. The coinage ratio between gold and silver 
under the act of 1792 was 15 to 1, but by the acts of 
1834 and 1837 it was changed first to 16.002 to 1 and 
finally to 15.988 to 1 (commonly called 16 to 1). This 
is the present ratio. The trade dollar of 420 grains 
troy was authorized by the act of February 12, 1873. 
It was intended for circulation in oriental countries 
as a substitute for the Mexican dollar, which it slight- 
ly exceeded in weight; but by the terms of the author- 
izing act it was made legal tender in the United States 
in sums not exceeding $5. This legal-tender quality 
was withdrawn by the joint resolution approved July 
22, 1876, and the coinage was limited to such amount 
as the Secretary of the Treasury should consider suffi- 



32 STANDARD BANKING 

cient to meet the export demand. The act of Febru- 
ary 19, 1887, provided for the retirement of trade dol- 
lars and their recoinage into standard silver dollars or 
subsidiary silver. 

SUBSIDIARY SILVER.— The silver coins of 
smaller denominations than one dollar, authorized by 
the act of April 2, 1792, were half dollars, quarter 
dollars, dimes, and half dimes. They were the equiva- 
lent in value of the fractional parts of a dollar which 
they represented — that is, two half dollars were equal 
in weight to one silver dollar, and so on. These coins 
were full legal tender when of standard weight, and 
those of less than full weight were legal tender at 
values proportional to their respective weights. By 
the act of February 21, 1853, the weight of the frac- 
tional silver coins was reduced so that the half dollar 
weighed only 192 grains, and all the smaller denom- 
inations were reduced in proportion. Their legal- 
tender quality was at the same time limited to $5, and 
they thus became subsidiary coins. The present sub- 
sidiary coins are half dollars, quarter dollars, and 
dimes. Their weight is slightly different from that 
prescribed by the act of 1853; but the limit of their 
legal-tender quality has been raised to $10. 

PAPER MONEY.— The first paper money ever 
issued by the Government of the United States was 
authorized by the acts of July 17 and August 5, 1861. 
The notes issued were called "demand notes," be- 
cause they were payable on demand at certain desig- 
nated subtreasuries. They were receivable for all 
public dues, and the Secretary was authorized to re- 



STANDARD BANKING 33 

issue them when received, but the time within which 
such reissues might be made was limited to December 
31, 1862. The amount authorized by these acts was 
$50,000,000. An additional issue of $10,000,000 was 
authorized by the act of February 12, 1862, and there 
were reissues amounting to $30,000. The demand 
notes were paid in gold when presented for redemp- 
tion and they were received for all public dues, and 
these two qualities prevented their depreciation. All 
other United States notes were depreciated in value 
from 1862 until the resumption of specie payments. 
The act of February 25, 1862, provided for the substi- 
tution of United States notes in place of the demand 
notes, and the latter were therefore canceled when 
received. By July 1, 1863, all except about $3,350,000 
had been retired, and nearly three millions of this 
small remainder were canceled during the next fiscal 
year. These notes were not legal tender when first 
issued, but they were afterwards made so by the act of 
March 17, 1862. 

UNITED STATES NOTES.— The principal 
issue of United States paper money was officially 
called United States notes. These were the well- 
known "greenbacks" or "legal tenders." The act of 
February 25, 1862, authorized the issue of $150,000,- 
000, of which $50,000,000 were in lieu of an equal 
amount of demand notes, and could be issued only 
as the demand notes were canceled. A second issue 
of $150,000,000 was authorized by the act of July 11, 
1862, of which, however, $50,000,000 was to be a tem- 
porary issue for the redemption of a debt known as 



34 STANDARD BANKING 

the temporary loan. A third issue of $150,000,000 
was authorized by the act of March 3, 1863. The 
total amount authorized, including the temporary 
issue, was $450,000,000, and the highest amount out- 
standing at any time was $449,338,902 on January 
30, 1864. There are still outstanding $346,681,016. 
The reduction from the original permanent issue of 
$400,000,000 to $346,681,016 was caused as follows: 
The act of April 12, 1866, provided that United States 
notes might be retired to the extent of $10,000,000 
during the ensuing six months, and that thereafter 
they might be retired at the rate of not more than 
$4,000,000 per month. This authority remained in 
force until it was suspended by the act of February 
4, 1868. The authorized amount of reduction during 
this period was about $70,000,000, but the actual re- 
duction was only about $44,000,000. No change was 
made in the volume of United States notes outstand- 
ing until after the panic of 1873, when, in response 
to popular demand, the Government reissued $26,- 
000,000 of the canceled notes. This brought the 
amount outstanding to $382,000,000, and it so re- 
mained until the resumption act of January 14, 1875, 
provided for its reduction to $300,000,000. The 
process was, however, again stopped by the act of 
May 31, 1878, which required the notes to be reissued 
when redeemed. At that time the amount outstand- 
ing was $346,681,016, which is the present amount. 
The amount of United States notes redeemed from 
the fund raised for resumption purposes since Jan- 
uary 1, 1879, to June 30, 1910, was $712,260,694; but 



STANDARD BANKING 35 

the volume outstanding is undiminished because of 
the provisions of the act of May 31, 1878, which re- 
quire the notes so redeemed to be paid out again and 
kept in circulation. The act of March 14, 1900, also 
directed the reissue of United States notes when re- 
deemed, but they must first be exchanged for gold 
as provided in the said act. The act also provides 
that when silver certificates of large denominations 
are canceled, and small denominations issued in their 
place, a like. volume of small United States notes 
shall from time to time be canceled and notes of $10 
and upward issued in substitution therefor. The 
act of March 4, 1907, provides for the issue, under 
certain conditions, of United States notes in denom- 
inations of $1, $2, and $5, and upon such issue an 
equal amount of United States notes of higher de- 
nominations shall be retired and canceled. 

GOLD CERTIFICATES.— The act of March 
3, 1863, authorized the Secretary of the Treasury to 
receive deposits of gold coin and bullion in sums not 
less than $20, and to issue certificates therefor in de- 
nominations not less than $20, said certificates to be 
receivable for duties on imports. Under this act 
deposits of gold were received and certificates issued 
until January 1, 1879, when the practice was discon- 
tinued by order of the Secretary of the Treasury. 
The purpose of the order was to prevent the holders 
of United States notes from presenting them for 
redemption in gold, and redepositing the gold in ex- 
change for gold certificates. No certificates were 
issued after January 1, 1879, until the passage of the 



36 STANDARD BANKING 

bank act of July 12, 1882, which authorized and di- 
rected the Secretary of the Treasury to receive gold 
coin and issue certificates. This act, however, pro- 
vided that "the Secretary of the Treasury shall sus- 
pend the issue of gold certificates whenever the 
amount of gold coin and gold bullion in the Treasury, 
reserved for the redemption of United States notes, 
falls below one hundred millions of dollars/' The 
act of March 14, 1900, reenacted this provision, and 
further provided that the Secretary may, in his dis- 
cretion, suspend such issue whenever and so long as 
the aggregate amount of United States notes and 
silver certificates in the general fund of the Treasury 
shall exceed $60,000,000. It provided further that 
of the amount of such certificates outstanding one- 
fourth, at least, shall be in denominations of $50 or 
less. The act of July 12, 1882, made them receivable 
for customs, taxes, and all public dues. The act of 
March 4, 1907, provides for the receipt of deposits 
of gold coin in sums of not less than $20 and the 
issue of gold certificates therefor in denominations 
of not less than $10. Gold certificates were made 
legal-tender in payment of all debts and dues, public 
and private, by the act of Congress passed Decem- 
ber 24, 1919. 

SILVER CERTIFICATES.— The act of Feb- 
ruary 28, 1878, authorizing the issue of the standard 
silver dollars, provided that any holder of such dol- 
lars might deposit them in sums not less than $10 
with the Treasurer or any assistant treasurer of the 
United States and receive certificates therefor, in 



STANDARD BANKING 37 

denominations not less than $10, said certificates to 
be receivable for customs, taxes, and all public dues. 
The act of August 4, 1886, authorized the issue of 
the smaller denominations of $1, $2, and $5. Silver 
certificates have practically taken the place in circu- 
lation of the standard silver dollars which they are 
coined to represent. The act of March 14, 1900, 
provided that thereafter the issue of silver certifi- 
cates should be limited to the denominations of $10 
and under, except that 10 per cent of the total vol- 
ume of such certificates, in the discretion of the Sec- 
retary of the Treasury, may be issued in denomina- 
tions of $20, $50, and $100. 

TREASURY NOTES, ACT OF JULY 14, 
1890. — These notes were authorized by the act of 
July 14, 1890, commonly called the "Sherman Act." 
The Secretary of the Treasury was directed to pur- 
chase each month 4,500,000 ounces of fine silver at 
the market price, and to pay for the same with Treas- 
ury notes redeemable on demand in coin and legal 
tender for all debts, public and private, except where 
otherwise expressly stipulated in the contract. It 
was provided in the act that when the notes should 
be redeemed or received for dues they might be re- 
issued, but that no greater or less amount of such 
notes should be "outstanding at any time than the 
cost of the silver bullion and the standard silver dol- 
lars coined therefrom, then held in the Treasury 
purchased by such notes. ,, The authority for the 
purchase of silver bullion under this act was repealed 
by the act of November 1, 1893, up to which date 



38 STANDARD BANKING 

the Government had purchased 168,674,682.53 fine 
ounces, at a cost of $155,931,002, for which Treasury 
notes were issued. The amount of Treasury notes 
redeemed in gold up to the close of the fiscal year 
1910 was $110,582,179 and the amount redeemed in 
standard silver dollars was $84,556,867. Treasury 
notes redeemed in standard silver dollars are can- 
celed and retired in accordance with the require- 
ments of the act of 1890. Sections 5 and 8 of the 
act of March 14, 1900, also provide for the cancella- 
tion and retirement of Treasury notes to an amount 
equal to the coinage of standard silver dollars and 
subsidiary silver from the bullion purchased with 
such notes. 

FRACTIONAL CURRENCY.— When specie 
payments were suspended, about January 1, 1862, 
both gold and silver coins disappeared from circula- 
tion. The place of the subsidiary silver coins was 
for a time supplied by the use of tickets, duebills, 
and other forms of private obligations, which were 
issued by merchants, manufacturers, and others 
whose business required them to "make change." 
Congress soon interfered, and authorized, first, the 
use of postage stamps for change; second, a modified 
form of postage stamp called postal currency, and 
finally, fractional paper currency in denominations 
corresponding to the subsidiary silver coins. The 
highest amount authorized was $50,000,000. The 
highest amount outstanding at any time was $49,- 
102,660.27, and the amount still outstanding, though 
not in use as money, is $15,234,756.28, of which 



STANDARD BANKING 39 

$8,375,934 is officially estimated to have been de- 
stroyed. Much has been kept as relics. 

NATIONAL BANK NOTES.— The issue of 
circulating notes by national banking associations 
was first authorized by the act of February 25, 1863. 
This act was found to be defective and was super- 
seded by the act of June 3, 1864. The act of June 3, 
1864, is the basic act for the national banking system. 
This act provided for the organization of national 
banks with a capital of not less than $100,000, nor less 
than $200,000 in cities with a population in excess 
of 50,000, except, that in places not over 6,000 popu- 
lation, banks might be organized with a capital of 
not less than $50,000. Organizing banks were re- 
quired to deposit with the Treasurer of the United 
States registered interest-bearing bonds to an amount 
not less than $30,000 nor less than one-third of their 
paid-in capital stock. Upon the transfer and delivery 
of bonds to the Treasurer of the United States, bank- 
ing associations were entitled to receive from the 
Comptroller of the Currency circulating notes of 
different denominations in blank, equal in amount to 
90 per cent of the current market value, but not to 
exceed 90 per cent of the par value of the bonds de- 
posited. Issues were limited to an amount equal to 
the paid-in capital of each bank depositing bonds and 
to a total of $300,000,000 for the entire country. The 
notes authorized by this act were made receivable at 
par in all parts of the United States for all public 
dues to the United States, except duties on imports, 
and also for obligations of the Government except 



40 STANDARD BANKING 

interest on the public debt and in the redemption of 
national currency. The notes were made receivable 
for all purposes by national banks and were redeem- 
able in lawful money at the bank of issue and at 
designated agencies in reserve cities. Taxation upon 
the average outstanding circulation was imposed at 
the rate of one-half of 1 per cent semi-annually. 
Various and material amendments to the basic act 
have been made. The act of March 3, 1865, provided 
that one-half of the total circulation authorized 
should be apportioned according to population and 
the remainder according to banking requirements. 
This apportionment and the limitation on the aggre- 
gate amount of circulation were repealed January 
14, 1875. Provision was made by the act of June 20, 
1874, for the deposit of lawful money by each bank 
with the Treasurer of the United States in an amount 
equal to 5 per cent of its outstanding circulation to 
be used for the redemption of the national bank notes. 
The provision authorizing redemption agents in vari- 
ous cities was repealed. At the same time provision 
was made for the retirement of circulation by the 
deposit of lawful money with the Treasurer of the 
United States. The destruction of notes upon re- 
demption by maceration instead of by burning was 
authorized by act of June 23, 1874. No material 
modification affecting national bank circulation was 
made subsequent to 1874 until 1882. By the act ap- 
proved July 12, 1882, national banks with a capital 
of $150,000 or less were not required to deposit or 
to keep on deposit with the Treasurer of the United 



STANDARD BANKING 41 

States bonds in excess of one-fourth of their capital 
stock as security for circulating notes. The act of 
June 20, 1874, provided that the amount of bonds on 
deposit for circulation should not be reduced below 
$50,000, which determined the amount of bonds re- 
quired to be deposited by banks organizing with a 
capital stock of over $150,000. A limitation of $3,- 
000,000 was placed in 1882 on the total amount of 
circulation that might be retired in any one month 
by the deposit of lawful money. This amount was 
increased by the act of March 4, 1907, to $9,000,000. 
The act of March 14, 1900, fixed the tax on circula- 
tion secured by 2 per cent bonds at one-fourth of 1 
per cent semi-annually and provided for the organi- 
zation of banks of not less than $25,000 capital in 
places with population not in excess of 3,000. This 
act increased the amount of circulation allowed from 
90 per cent to par value of the bonds deposited, but 
did not modify the requirement that banks should 
deposit bonds for circulation. The Federal Reserve 
Act, approved December 23, 1913, provides that na- 
tional banks thereafter organized shall not be re- 
quired to deposit United States bonds as a condition 
precedent to being authorized to begin business. 
Banks organized since that date may be banks of 
issue in accordance with previously existing law. 
The Federal Reserve Act further provides that after 
two years from its passage and for twenty years 
thereafter any member bank desiring to retire the 
whole or any part of its circulation may file with the 
Treasurer of the United States an application to sell 



42 STANDARD BANKING 

for its account, at par and accrued interest, United 
States bonds securing the circulation to be retired. 
Provision also is made for the purchase by the Fed- 
eral reserve banks of bonds offered for sale by the 
national banks, the purchase money to be deposited 
in the Treasury for the redemption of the circulation 
to be retired. 

FEDERAL RESERVE BANK NOTES.— Sec- 
tion 4, paragraph 8, and section 18 of the Federal 
Reserve Act provide that Federal reserve banks may 
take out circulating notes upon the deposit with the 
Treasurer of the United States of any bonds of the 
United States in the manner provided by existing 
law relating to national banks, in an amount equal 
to the par value of the bonds so deposited, said notes 
to be issued and redeemed under the same conditions 
and provisions of law as relate to the issue and re- 
demption of circulating notes of national banks se- 
cured by bonds of the United States bearing the cir- 
culation privilege, except that the issue of such notes 
shall not be limited to the capital stock of the Federal 
reserve bank issuing them. It is thus seen that Fed- 
eral reserve bank notes are identical in nature with 
national bank notes, the difference being that such 
notes are taken out by Federal reserve banks instead 
of by national banks. 

FEDERAL RESERVE NOTES.— Section 16 
of the Federal Reserve Act authorizes the issue, at the 
discretion of the Federal Reserve Board, of Federal 
reserve notes to Federal reserve banks through Fed- 
eral reserve agents. These notes are issued for the 



STANDARD BANKING 43 

purpose of making advances to Federal reserve banks 
and any Federal reserve bank may make application 
therefor to its Federal reserve agent, tendering col- 
lateral acceptable for rediscount under the provisions 
of section 13 of the act in an amount equal to the 
face value of the notes applied for. If the commer- 
cial paper offered is satisfactory, the agent, acting 
under authority received from the Federal Reserve 
Board, will issue the notes to the applying bank. In 
addition to the security afforded by the collateral 
deposited with the Federal reserve agent the notes 
when issued must be protected by a gold reserve of 
40 per cent, at least 5 per cent of which must be de- 
posited with the Treasurer of the United States as a 
redemption fund, the balance being held in the vaults 
of the Federal reserve bank. Federal reserve notes 
are obligations of the United States and are receiv- 
able on all accounts by all Federal reserve banks, 
national banks, and other banks members of the Fed- 
eral reserve system. They are also receivable for all 
taxes, customs, and other public dues. They are 
redeemable in gold on demand at the Treasury De- 
partment in Washington or in gold or lawful money 
at any Federal reserve bank. The notes are issued 
in denominations of $5, $10, $20, $50, and $100, and 
the designs of each denomination for each Federal 
reserve bank are uniform, the notes being distin- 
guished only by the letter and number designating 
the bank and a seal bearing the name of the bank. 
The first issue of these notes was made on Novem- 
ber 16, 1914. 



CHAPTER II 



Credit 

CREDIT may be generally defined as a promise 
to pay in the future for something received in 
the present. It is an exchange of the privilege 
to use wealth, which may be composed of tangible 
goods or of rights or privileges. While credit im- 
plies exchange, the process of exchange is not com- 
pleted until payment is made. Credit has been called 
protracted exchange. Anybody who borrows ex- 
pects to use what he borrows. Anybody who loans 
expects to receive some other value in place of what 
is loaned. The lender transfers present goods for 
future payment. As present goods are usually more 
desirable than future goods, they have more value, 
and when exchanged for future goods the borrower 
expects to pay the lender something more than he 
receives, as the motive of his borrowing is to make 
not only enough to pay an increase to the lender but 
something more. Borrowers sometimes borrow to 
maintain themselves and not with any idea of profit- 
ing by the transaction. One who borrows simply to 
maintain himself hopes that the loan received will 
enable him to pass the crisis and ultimately to gain. 
Where payments are deferred, prices are likely to be 
higher than where exchanges are made for cash. 
Business houses give discounts for cash or for short- 
time payments. The foundation of credit is confi- 
dence. Credit used in the sense of honesty and repu- 

44 



STANDARD BANKING 45 

tation is the credit on which business is founded. 
There is a difference, however, in the character of 
credit. If one lets a horse and carriage for hire he 
feels certain of the return of that property at the end 
of the time agreed upon. If one, however, lends or 
sells lumber he parts with his control over it. It is 
consumed. The point is that there is risk where 
wealth is destroyed and this is a risk both for the one 
who loans and the one who borrows. The future 
itself is problematical and he who trusts it expects 
to reap a corresponding reward. Law provides for 
such future risks in that it protects lenders through 
such means as actions for damages for breach of con- 
tracts, by mortgages, and by the sale of collateral. 
CREDIT INSTRUMENTS.— Credit as we 
know it could not have performed analogous func- 
tions among primitive peoples. Such peoples, how- 
ever, used credit in the sense of loaning, for they 
loaned cattle and undoubtedly other forms of prop- 
erty. This might be called a simple form of credit 
as contrasted with the complex forms of the present 
time. In ancient days loans without interest were 
made by relatives with the motive of assistance, or 
loans were made to strangers or to dependent classes 
at usurious rates. In general, the idea of the use of 
credit was at first not for the purpose of the further 
development of industry. This concept arose when 
it was seen that present wealth might be exchanged 
for future wealth by the use of a machine of evidence 
involving a statement of value, and that this ma- 
chine, known as negotiable paper, might be traded 






46 STANDARD BANKING 

in on a market. The principal forms of negotiable 
paper are bills of exchange and promissory notes. 
A "bill of exchange" or "draft" may be defined as an 
order drawn by one party, called the "drawer," on 
another party, called the "drawee," for the payment 
of money to a third party, called the "payee," the 
amount to be charged to the drawer. A bill of ex- 
change may be drawn payable at sight or at some 
specified time subsequent to sight or demand. Un- 
less the drawee wishes to pay a time draft or bill 
when presented, he writes across the face of the 
paper the word "Accepted," with his signature and 
the date. This means that the drawee assents to the 
terms of the bill or draft and binds himself to honor 
it at maturity. It then becomes known as an "ac- 
ceptance." A "promissory note" is a promise made 
in writing by one party, called the "maker," to pay 
a sum of money to another party, called the "payee," 
or to his order. 

CREDIT AND BANKING.— Banks are institu- 
tions organized and operated primarily for the pur- 
pose of dealing in money and credit. From the stand- 
point of a bank, credit is used from two different 
angles, namely, that of the bank as a creditor, and 
that of the bank as a debtor. As a creditor the 
bank is concerned with "the capacity for credit" 
of its customers, actual and prospective. It wants 
to know how much it can safely lend to each 
customer, and the amount and character of the collat- 
eral it should require or the number and character of 
endorsers. These are questions that call for an un- 



STANDARD BANKING 47 

derstanding of the customers moral character and 
business ability and demand a knowledge of the na- 
ture of his business and of his assets and liabilities. 
This phase of the subject of credit is more fully con- 
sidered in subsequent chapters. The fundamental 
function of a bank, however, is to lend its own credit, 
and thus become a debtor, chiefly in the form of bank 
deposits and bank notes. The nature of these two 
forms of bank credits may best be made clear by 
assuming a bank comparatively free from govern- 
mental restrictions as regards deposits, bank note 
issues, and reserves — a bank similar to the first or 
second United States banks of the last century or to 
a Canadian joint stock bank of today — and by run- 
ning a few simple operations through the balance 
sheet. Let us assume that the bank organizes with 
$1,000,000 of cash paid-up capital. It expends $150,- 
000 for a banking house and $15,000 for furniture 
and fixtures. When it opens for business its balance 
sheet stands as follows : 

Resources 

Banking House $ 150,000 

Furniture and Fixtures 15,000 

Cash in Vault 835,000 

Total $1,000,000 

Liabilities 
Capital Stock $1,000,000 

Total $1,000,000 

DISCOUNT OPERATIONS.— By the end of 
the first week the bank has received deposits of cash 



4« STANDARD BANKING 

amounting to $140,000; and has discounted for vari- 
ous customers $500,000 of sixty=day notes at 6%, 
the borrower in each case having left the entire pro- 
ceeds of his discounted note on deposit with the bank. 
The cash deposits of $140,000 added that amount to 
the "cash in vault" as a resource, and the same 
amount as a deposit on the liability side. A discount 
charge of $5,000 was made by the bank for discount- 
ing the $500,000 worth of notes, which is 6% of this 
amount for 60 days. This discount is taken out in 
advance and the amount is entered among the liabili- 
ties as undivided profits, since (when earned) it will 
be a liability of the bank to the bank's own stock- 
holders. This amount may also be credited to an 
account called "unearned discount," and only taken 
into undivided profits as the time which the note has 
to run elapses and the discount is actually earned by 
the bank. The balance, namely, $495,000, is entered 
as deposits. The balance sheet then stands as fol- 
lows: 

Resources 

Eanking House $ 150,000 

Furniture and Fixtures. . . * 15,000 

Cash in Vault 975,000 

Loans and Discounts 500,000 

Total $1,640,000 

Liabilities 

Capital $1,000,000 

Undivided Profits 5,000 

Deposits 635,000 

Total $1,640,000 



STANDARD BANKING 49 

It will be noticed that of the $635,000 of deposits, 
$495,000 represent no cash payment to the bank what- 
soever, but is merely a book entry placing to the 
credit of depositors this amount which is the pro- 
ceeds of the notes the bank has discounted for them. 
The bank has merely loaned these customers its 
credit, which they may check against as they will. 
Suppose that during the next few days there are a 
large number of applications from responsible busi- 
ness men for loans and that the bank discounts for 
these men $2,000,000 of paper, this time all 90-day 
paper at 6%, the entire proceeds (amounting to $1,- 
970,000) being left for the time being on deposit. 
Here the bank is lending and placing to the borrow- 
ers' credit on deposit account $1,970,000, although 
its books show at the time the loans are made that 
it has only $975,000 of cash in its possession. These 
deposits, moreover, are payable in cash on demand. 
After this operation the balance sheet stands as fol- 

Resources 

Banking House $ 150,000 

Furniture and Fixtures 15,000 

Cash in Vault 975,000 

Loans and Discounts 2,500,000 

Total $3,640,000 

Liabilities 

Capital $1,000,000 

Undivided Profits 35,000 

Deposits 2,605,000 

Total $3,640,000 



50 STANDARD BANKING 

The bank has now loaned $2,500,000 although its 
total receipts of cash from the beginning have been 
but $1,140,000, and it has spent $165,000 of that for 
Furniture and Fixtures. It still has on hand $975,000 
in cash, but it owes depositors $2,605,000. Obviously 
if the depositors should all exercise their legal right 
to draw out at once the full amount of their deposits, 
the bank would not have enough money to pay much 
more than a third of the amount demanded. There 
are sufficient resources, if they were all turned into 
cash, to meet all possible demands, paying every dol- 
lar of deposit, but the resources are largely in the 
form of customers' notes that will not be due for 
some time, and depositors may demand cash. As a 
matter of practice, however, the bank knows that 
there is very little likelihood that any large percent- 
age of deposits will be withdrawn in any one day. It 
furthermore knows that every day there will be re- 
ceipts as well as withdrawals, since its business cus- 
tomers will ordinarily deposit the money and checks 
they receive over their counters each day. The 
money the bank receives over its counters in a day 
will often exceed that it is called to pay out; while 
checks on one depositor's account which are deposited 
by another depositor will cancel each other so far as 
the balance sheet of the bank is concerned, the trans- 
fers being effected merely by debits and credits on 
the books of the bank. 

CASH RESERVE.— The result is that a cash 
reserve equivalent to a small percentage of deposits 
— in most small banks less than ten per cent. — is 



STANDARD BANKING 51 

sufficient to meet the demands of depositors and to 
leave a margin of safety. The bank in our illustra- 
tion is carrying a cash reserve against deposits of 
over 37%, despite its large loans. Usually a borrower 
discounting paper at a bank does not leave the entire 
proceeds of the loan on deposit long. He ordinarily 
checks against the new credit at once and gradually 
reduces it. As he does so, the bank loses some of its 
cash and has its percentage of reserve reduced. Let 
us assume in the illustration that through the pre- 
sentation of checks over the bank's counter $475,000 
of cash is withdrawn. Then the balance sheet stands 
as follows : 

Resources 

Banking House $ 150,000 

Furniture and Fixtures 15,000 

Cash 500,000 

Loans and Discounts 2,500,000 

Total $3,165,000 

Liabilities 

Capital $1,000,000 

Undivided Profits 35,000 

Deposits 2,130,000 

r 

Total $3,165,000 

The percentage of reserve is reduced from 
about 37 to about 23. The less rapidly a borrower 
reduces the deposit credit representing the proceeds 
of his loan, and the larger the deposit balance he keeps 
at the bank, the more profitable the account is to the 



52 STANDARD BANKING 

bank, for in a sense the bank is having its cake and 
eating it too. Borrowers who withdraw the pro- 
ceeds of their loans quickly and who normally carry 
low deposit balances in proportion to the amounts 
they borrow, are not likely to receive such favorable 
treatment from banks as customers who keep sub- 
stantial balances in proportion to their loan accounts. 
It is the latter class that are the most profitable to the 
bank. Often banks make the maintenance of a deposit 
balance of a predetermined minimum or average 
amount a condition to granting a certain line of 
credit. 

BANK NOTES.— The second important form 
of bank credit is bank-note credit. From the stand- 
point of the issuing bank, notes of the simplest type 
of asset currency are essentially the same as demand 
deposits. Such a bank note is, like the bank deposit, 
a promise to pay lawful money on demand. Like a 
deposit it requires of the bank the maintenance of an 
adequate cash reserve, and like a deposit it is readily 
transferable from person to person. The deposit is 
an implied parole promise to pay, evidenced ordinarily 
by a pass book, the payment to be made usually 
against checks properly drawn and signed in accord- 
ance with banking law and established practice. The 
note is a promise to pay engraved on a piece of paper 
which circulates as money. Like the check the note 
must be redeemed by the issuing bank in lawful money 
when presented over the bank's counter. Under 
these circumstances it should obviously be a matter 
of little difference to a bank issuing such bank notes, 



STANDARD BANKING 53 

whether a borrower takes the proceeds of his loan 
in the form of a deposit credit which he can check 
against or in the form of bank notes which he can use 
directly as money. The similarity of these two forms 
of bank credit may be made clearer by carrying 
through our balance sheet a few operations involv- 
ing bank notes. Let us suppose that among the cus- 
tomers of our bank there are several factories em- 
ploying laborers whom they pay weekly in "cash." 
These factories, we will suppose, have sold heavily 
on credit and finding themselves short of ready funds 
for their payroll, borrow of the bank by discounting 
60-day notes totalling $500,000 at 6 per cent. Having 
made proper arrangements regarding balances, they 
take entire proceeds of loan at once in bank notes and 
use them to pay their laborers on Saturday. The 
balance sheet of the bank now stands : 

Resources 

Banking House $ 150,000 

Furniture and Fixtures 15,000 

Cash in Vault 500,000 

Loans and Discounts 3,000,000 

Total $3,665,000 

Liabilities 

Capital $1,000,000 

Undivided Profits 40,000 

Deposits 2,130,000 

Bank Notes 495,000 

Total $3,665,000 

The percentage of reserve against demand liabil- 



54 STANDARD BANKING 

ities (formerly only deposits, but now deposits and 
notes), will be reduced from 23 per cent, to 19 per 
cent. So long as these bank notes remain out circu- 
lating from hand to hand or are held in the tills of 
merchants or in the pockets of the people, they make 
no demand on the bank's cash. The bank has 
in effect swapped its non-interest-bearing demand 
promises to pay, that circulate as money, for the 
factories' interest-bearing time promises to pay, 
that do not circulate as money. In this way 
the bank lends its credit and realizes its profit. 
Whether the bank's demand promises to pay are in 
the form of bank notes or of a deposit obviously 
makes little difference to the bank. 

BANK NOTES AND CHECKS. — Although 
bank notes and bank deposits are similar forms of 
credit from the bank's point of view, they are dif- 
ferent in important particulars from the public's point 
of view. Let a stranger in any city try to make pur- 
chases with his checks and he will soon recognize 
that a check, however good, is a very different thing 
from a bank note; or let anyone compare a check with 
a bank note in its usefulness for buying a railroad 
ticket or in buying stamps at the post office. The 
bank note is accepted everywhere in the country as 
money, without reference to the character or the 
credit of the person who is paying it, even though 
the place of payment may be thousands of miles away 
from the office of the issuing bank, and although the 
bank may be entirely unknown to the person receiv- 
ing the note. While this is not true in countries with 



STANDARD BANKING 55 

defective bank-note currencies, it is normally true in 
advanced countries. The check is accepted only when 
the recipient has confidence in the character and 
credit of the person drawing it. The receiver of the 
note is quite likely to pass it on to someone else in 
purchasing goods or paying for services, and so it of- 
ten remains "away from home" (namely, the issuing 
bank) — sometimes very far away from home — for a 
long period of time, passing through the hands of 
many people who know little or nothing of the stand- 
ing of the issuing bank or perhaps of any other bank. 
Relatively speaking, bank notes and other forms of 
money, as contrasted with bank deposits circulating 
through the instrumentality of checks, so-called "de- 
posit currency," are used much more extensively by 
the poor than by the well-to-do. Ordinarily a check 
makes one payment, is deposited by the recipient at 
his bank, and is then sent "home," and cancelled. Its 
life is brief. People expect to scrutinize checks when 
they are offered and to test out their value at once by 
sending them home quickly. It would be an unen- 
durable nuisance to trade if bank notes had to be 
treated in the same way. Bank note holders are not 
in the same position to protect themselves that de- 
positors are. One selects the bank at which he keeps 
his account, with knowledge of its officers and finan- 
cial standing. He is not in position to examine the 
financial standing of all the banks whose bank notes 
are paid to him. In case of bank failure the deposit loss 
is likely to fall in the main on financially broader 
shoulders than is the bank note loss. All this is said 



56 STANDARD BANKING 

on the assumption that the issuance by banks of cir- 
culating credit — both deposit credit and note credit 
— is unrestricted by law. Because of these and other 
differences, from the public point of view, between 
deposits and bank notes, governments usually throw 
special safeguards around the issuance of bank notes 
as a means of protecting the public. 

BANK NOTE PROTECTION.— In most cases 
bank notes enjoy a prior lien on the assets of the is- 
suing bank, so that in case this bank fails, bank note 
holders shall receive their pay in full before anything 
is paid to depositors or stockholders. Special guar- 
anty funds are frequently set aside for the protection 
of note holders in case of bank failures. Legal re- 
serve requirements often exist against notes where 
they do not exist against deposits; and where they 
exist for both they are often higher for notes than for 
deposits. The pledging with the government of some 
special form of asset, like United States bonds against 
National bank notes in this country, has been a com- 
mon device. In recent years there has been a strong 
tendency to give a monopoly of the bank-note issue 
privilege to central banks which are closely identified 
with the financial interests of the state, and whose 
quasi-public character is recognized. This is now the 
situation in most of the leading countries of Europe. 

Bank Reserves 

KINDS OF RESERVES.— The term bank re- 
serve in the United States is used loosely and in a 
variety of meanings. We speak of "cash reserve," 



STANDARD BANKING 57 

"deposited reserve," "legal reserve," "actual reserve," 
"secondary reserve," "lawful money reserve," and so 
forth. In the strictest and narrowest sense of the 
term a true bank reserve would consist solely of legal 
tender money actually in the possession of the bank, 
for it is only in such money that a bank may legally 
pay its creditors — chiefly depositors and note holders 
— if they so insist. These obligations, moreover, for 
the most part are demand obligations, and failure to 
meet them on demand is an act of insolvency. Inas- 
much as all kinds of money in the United States are 
backed by the United States Government, which is 
responsible for maintaining them at a parity with 
gold, the American public today draws no discrimi- 
nating line between those kinds of money that are 
unlimited legal tender like gold coin, gold certificates, 
silver dollars, and United States notes, those that are 
limited legal tender like fractional coin, and those that 
are not legal tender (except perhaps in certain speci- 
fied relations) like silver certificates, Federal Reserve 
notes, National bank notes, and Federal Reserve Bank 
notes. The result is that non-legal tender forms of 
money under reasonable restrictions may safely serve 
as reserve money in the United States. 

SECONDARY RESERVE. — The "secondary 
reserve" is the bank's second line of defense. Strictly 
speaking, it is not a reserve at all, but an investment 
by the bank in supposedly highly liquid assets that 
can be turned into cash on short notice and with little 
or no loss. Secondary reserves usually consist of high- 
grade, short-time commercial paper, and of securities 



58 STANDARD BANKING 

that are supposedly readily marketable. In the United 
States one of the most important kinds of secondary 
reserve, although it is not usually recognized as a sec- 
ondary reserve at all, is the deposit of funds by one 
bank in another. These deposits except those made 
with the Federal Reserve Bank usually yield interest 
to the depositing bank. They are actually only highly 
liquid investments, for they must be turned into a pri- 
mary reserve, namely into "money on hand," before 
they can be used to meet a bank's cash obligations to 
its customers. 

RESERVE CONSIDERATIONS.— From the 
previous discussion of the balance sheet the function 
of the bank reserve has been made evident. It is the 
fund a bank carries for the purpose of meeting actual 
and probable demands upon it for cash on the part of 
its customers. Cash in reserve does not directly yield 
the bank a profit and therefore, other things equal, 
the larger the proportion of its assets a bank keeps 
in the form of "idle" reserves, the less the profit it 
makes. The profit-making motive therefore continu- 
ally operates to drive reserves down to the minimum. 
On the other hand a bank is a credit institution and 
its own reputation for strength and solvency is its 
greatest asset. Anything that impairs that reputation 
drives away customers and ultimately reduces profits. 
Financial standing in the community is easily weak- 
ened by a bank and when once weakened can only 
slowly be restored. Failure at any time to meet the 
demands of depositors and note-holders is an act of 
insolvency, and even if it is only temporary is a seri- 



STANDARD BANKING 59 

ous blow to a bank's prestige. So also is a reputation 
for "running near the limit." These considerations 
compel banks to carry sufficient reserves to meet all 
probable demands and, in addition, to afford a sub- 
stantial margin of safety. There is here a continual 
conflict of motives, immediate profits on the one hand, 
and safety, prestige and long-run profits on the other 
hand. 

LEGAL RESERVES.— Because experience has 
shown that many banks in their zeal for immediate 
profits will reduce their reserves to dangerously low 
figures, thereby imperiling the funds intrusted to 
them and threatening the country's whole delicate 
credit structure, and because the banks that do this 
are for a time dangerous competitors of the more con- 
servative banks that are protecting the public inter- 
ests, we have found it desirable in the United States, 
as have the people in some other countries, to impose 
by law legal reserve minima. Such minima are en- 
forced by the laws of the Federal government and also 
by the laws of most of our states. They virtually say 
to the banks : "Each bank must decide for itself above 
a reasonable limit what percentage of reserve it needs. 
This percentage will vary from bank to bank accord- 
ing to the character of its customers and the type of 
business it chiefly serves. For each bank it wiH also 
vary from season to season according to the seasonal 
changes in the business needs of the community. But 
there are limits beyond which no bank can safely go 
without endangering the public interest; and 'the 
rules of the banking game' are that those limits shall 



60 STANDARD BANKING 

not be passed, except perhaps temporarily under emer- 
gency conditions and subject to certain penalties." 

BANK DEPOSITS AND PRICE LEVELS.— 
In the first chapter was discussed the subject of the 
elementary principles determining the value of money 
as that value is expressed in the level of prices; but 
throughout the discussion it was assumed that all ex- 
changes were made by means of money and none by 
bank checks. Having considered the general charac- 
ter of bank deposits, the student is now in position to 
examine the relation of deposit currency to the value 
of money. The introduction of bank notes into a coun- 
try formerly carrying on its exchanges with gold 
money under a system of free coinage, and the exten- 
sive development of the use of checks, would ob- 
viously lessen the value of gold money. Highly ef- 
ficient media of exchange would be provided in the 
form of bank notes and checks and these media serv- 
ing as substitutes for money in hand-to-hand circula- 
tion, would, like any other substitute, lessen the de- 
mand for the article whose place they were taking. 
Their introduction would increase the supply of media 
of exchange in the particular country, and depress the 
value of the dollar with the result that the dollar's 
gold content, namely, 25.8 grains of gold .900 fine, 
would be worth less as compared with goods in this 
country than formerly and less than it was worth 
abroad. In seeking the best market some of the gold 
coins would be melted down and exported and some 
would go into the merchandise uses at home. Sup- 
pose in this way 100,000 ounces of fine gold (the equiv- 



STANDARD BANKING 61 

alent of $2,067,000) should be driven out of circula- 
tion. The release of this quantity of gold from the 
money uses in the country introducing banks would 
have the same effect on the world's supply of gold as 
the production of 100,000 additional ounces by the 
world's gold mines. It would tend to make gold 
cheaper in terms of other commodities the world over 
and therefore likewise make gold units of value cheap- 
er; that is, the dollar, the sovereign, the yen, the 
franc, etc. Prices would tend to rise in all gold stand- 
ard countries just as the water level would rise in a 
series of connected lakes if there had been a cloud- 
burst over one of them. The dollar in the home coun- 
try would continue to be equivalent in value to 25.8 
grains of gold .900 fine, but both dollar and gold bul- 
lion would be less valuable than before in terms of 
other goods. Furthermore, there would be more dol- 
lars of circulating media in the country because of the 
addition of the notes and checks to the circulation, 
and also because of a return flow of some of the 
gold originally lost as the released supply spread it- 
self out over the entire world, creating a new equi- 
librium of world gold value. Some gold would be 
permanently lost from the country introducing bank 
notes, but there would be a net gain in its supply of 
circulating media, the value of a dollar would tend to 
decline and the price level to move upward. 

DEPOSIT CURRENCY CIRCULATION.— 
Of course banks need money for reserves against 
their bank note issues, and their deposits which cir- 
culate in the form of checks, so that the amount of 



62 STANDARD BANKING 

notes and checks used for exchange purposes would 
not represent a net increase in the circulating media. 
Furthermore, while a check is occasionally indorsed 
by the receiver and passed on to a second party in the 
purchase of goods, and, rarely, even to a third or 
fourth party, before it is returned to the issuing bank 
and cancelled, such purchases are negligible compared 
with the entire amount of purchases by checks, and 
for all practical purposes it is a fair assumption that 
each check makes one purchase and is then deposited 
and sent home to die. The average gold coin (or 
other piece of money) on the other hand, changes 
hands in the purchase of goods many times in the 
course of a year. A given amount of deposit, how- 
ever, will serve as the basis of a check circulation of 
many times its value. With an average daily deposit 
balance at his bank of $10,000 throughout the year a 
merchant depositing his receipts at his bank every 
day and making most of his payments by means of 
checks, may easily make check payments in the 
course of a year of several hundred thousand dollars. 
If we should arbitrarily assume that by all depositors 
(in check accounts) in commercial banks the average 
volume of checks drawn in the course of .a year 
amounts to $30 for each dollar of average daily 
balance, and if we should arbitrarily assume that 
the banks on the average find from experience 
that to be safe they must carry average gold re- 
serves against deposits of 10 per cent., it would fol- 
low that $1 in reserve would serve as a money basis of 
$300 of check transactions in a year. Estimates of 



STANDARD BANKING 63 

the average annual rate of monetary turnover for the 
United States for pre-war times vary from about 20 
to 50. At the lower figure a dollar in active circula- 
tion would do $20 of money work in a year as con- 
trasted with $300 worth of money work assumed for 
the dollar held in reserve against deposits, and at the 
higher figure it would do $50 worth. The foregoing 
assumption, as regards the rate of deposit turnover, 
is lower than the estimates of some economists who 
have carefully studied the subject. Investigations are 
now under way that promise to yield valuable in- 
formation as to the ratio of deposit turn-over in dif- 
ferent parts of the United States. It is safe to say that 
under a highly developed system of deposit banks the 
average dollar in bank reserve is many times as effi- 
cient for purposes of exchange work as the average 
dollar in exclusively hand-to-hand circulation. The 
development of deposit banking accompanied by the 
increasing resort to the use of checks in business 
transactions is a great economizer of gold and tends 
to push upward continually the price level. 

RELATIONSHIP OF CIRCULATION TO 
RESERVES AND DEPOSITS.— As the amount of 
money in circulation increases, the proportions of the 
total that are kept in bank reserve and in active hand- 
to-hand circulation, respectively, tend to remain about 
constant under a given degree of banking develop- 
ment. Furthermore, in a given state of banking 
organization and development the average ratio of 
reserves to deposits tends to be fairly constant, 
although there are temporary ups and downs from 



64 STANDARD BANKING 

season to season and although changes in business 
confidence exercise an influence on the ratio, banks 
tending to hold larger percentage reserves when 
troublesome times are threatening and smaller per- 
centage reserves when the financial skies are clear. 
Speaking broadly, it may be said that in a given 
state of banking organization and under normal 
conditions of business confidence an increase in the 
amount of money in circulation tends to cause a 
proportionate increase in the amount of bank re- 
serves and therefore to lead to a proportionate 
expansion of bank deposits and of deposit currency 
circulation. This is a useful basic principle to work 
from but it must be applied with caution, and 
careful allowances must be made for changing con- 
ditions in banking laws, banking organizations, busi- 
ness confidence, and business practices affecting the 
rate of monetary and deposit turnover. The quantity 
theory of money which we are here expressing is like 
every other economic law, merely a statement of the 
tendencies of certain economic forces under a given 
set of conditions. Like the broader law of demand 
and supply of which it is merely one phase, the quan- 
tity theory is useful only when applied intelligently 
and with due allowance for complicating forces. 

Seasons and Cycles 

SEASONAL MOVEMENTS IN MONEY 
MARKETS.— The demand for money in the United 
States is seasonal in character. This fact is largely 
due to conditions pertaining to the marketing of 



STANDARD BANKING 65 

agricultural crops. Seasonal demands for money 
vary to some extent in different sections of the coun- 
try in accordance with local conditions, but the sea- 
sonal swings manifested in New England, the Middle 
States, and the district tributary to Chicago, are 
essentially the same. Since this territory includes 
New York City, the country's dominant money mar- 
ket, it may be taken as typical. This territory shows 
five important seasonal periods which may be briefly 
described as follows: 

(1) Throughout January and during the early 
part of February there is normally a pronounced 
"easing up" of the money market. By the forepart 
of January the crop-moving demand for money in 
the West and South is over and the return flow of 
cash is at its height. There is a natural reaction — 
in part psychological — which results from the relax- 
ing of the heavy strain on the money market incident 
to January 1 settlements and to the passing of the 
holiday season. At this time freight traffic, both on 
the railroads and the inland waterways, is relatively 
small. 

(2) The next seasonal movement is the "spring 
trade revival," beginning about the middle of Feb- 
ruary and extending until the latter part of March or 
the fore part of April (in some years a week or so 
later). This recovery is stimulated by the cheap 
money prevailing during the preceding period, rail- 
road traffic is released from the incubus of cold 
weather and snow, and the inland waterways are 
opened up; on April 1 comes the demand for large 



66 STANDARD BANKING 

interest and dividend settlements, and in this period 
comes the spring demand of agriculturists for the 
planting of the crops. 

(3) The third important seasonal movement is 
the weakening money market of the late spring, fol- 
lowed by the summer depression. This period ex- 
tends from the fore part or middle of April to the fore 
part of August. It is interrupted by a temporary re- 
action about July 1, the time of semi-annual settle- 
ments. This period shows the natural reaction from 
the high rates of the preceding period, the anticipa- 
tion and later the realization of the hot months of 
summer comprising the vacation period, the lessened 
demand for funds in the middle West after the plant- 
ing of the crops, and the resulting return of cash to 
New York. The declining and cheap money market 
at this time, which finds expression in such pheno- 
mena as large bank reserves, low percentage of loans 
to deposits, low interest rates, gold exportations, and 
high security prices, is to some extent self-corrective. 

(4) The crop-moving period is the fourth period. 
This period, the discounted beginning of which is 
evidenced by the upward turn of interest rates on 
sixty to ninety day commercial paper and four 
months' time paper as early as the first week in July, 
may perhaps best be dated from the first week in 
August, when call rates begin their upward movement 
and when bank reserves begin their decline. Under 
pressure of the crop-moving demand for cash in the 
West and South, bank reserves are depleted and the 
money market tightens rapidly until about October 1. 



STANDARD BANKING 67 

(5) The fifth and last seasonal period in the New 
York money market extends from about the first week 
in October to the opening of the new year. It is a 
period of considerable uncertainty and of many minor 
fluctuations, but the demand for moneyed capital con- 
tinues large until after the holiday season and January 
settlements. The westward movement of cash falls 
off rapidly in November and December, and by the 
latter month the return flow has set in. The south- 
ward movement declines in November, but shows 
some signs of increasing temporarily in December. 
Gold imports reach a low point in December. 

Doubtless the Federal Reserve System has exer- 
cised influence in the direction of lessening the extent 
of these seasonal fluctuations, and also some influence 
upon the delimitations of the periods themselves. 
Seasonal demands for money, however, are organic, 
and while new banking conditions may diminish their 
acuteness, the problem of periodical variations prom- 
ises to continue to complicate the banking business. 

BUSINESS CYCLES.— In addition to seasonal 
variations, business is affected by longer periods of 
alternating depression and activity. Such alterna- 
tions follow one another at irregular intervals, and 
have become known as "business cycles." Nobody 
can predict exactly the length of any period of activity 
or the length of any period of depression. Such 
periods in the past have been of varying duration, and 
have been characterized by similar phenomena, as 
follows: 

(1) Beginning with a period of depression, there 



68 STANDARD BANKING 

is a gradual recovery, and business reaches a stage of 
what may be called normal activity. From the 
normal stage business may develop into a condition 
of abnormal activity, culminating in a crisis. The crisis 
itself may be accompanied by a panic or not, but in- 
variably a period of depression follows any crisis. 
Banks are not mainly responsible for these changes, 
for banking operations rather reflect than create busi- 
ness conditions; but the banking business is deeply 
concerned with alternations between depression and 
activity. When business is inactive the trend of com- 
modity prices is downward, and profits are small, if 
there are any profits at all. The demand for capital 
is relatively small, including the demand for bank 
loans. Banks at such times commonly find that they 
could lend a good deal more than the solvent borrow- 
ers want. At such a period there is a good deal of 
business house cleaning. Weak concerns are weeded 
out, and those that stand the strain are forced to put 
into use every device that will lessen the cost of pro- 
duction. A period of depression, therefore, may be 
regarded from many points of view as creating the 
conditions necessary for more prosperous times. 

(2) What brings about a revival in business ac- 
tivity? It is a little difficult to say, but usually it 
would seem to be something which stimulates par- 
ticular branches of business. It may, for example, be 
the active demand in foreign countries for American 
agricultural products. If such a demand comes, and 
there happen to be good harvests in this country, ob- 
viously at least one class in the community gets a 



STANDARD BANKING 69 

large and satisfactory return for its endeavors. The 
demand for other commodities from the agricultural 
sections of the country would in such circumstances 
unquestionably increase. Improved conditions in ag- 
riculture would have an effect which would be felt to 
a greater or lesser extent throughout the whole range 
of industry. This demand would be greater in some 
branches than it would be in others. It might be par- 
ticularly great for agricultural implements. This in- 
creased demand for agricultural implements would in 
turn create an increased demand for iron and steel 
products; and, again, the increased prosperity in ag- 
ricultural sections of the country would presumably 
extend to the railroads and increase their demand for 
products. The increased demand thus spread to these 
other lines of business would in turn from them react 
back once more over the entire industrial field, and 
thus by a process of induction, so to speak, each kind 
of business would act and react upon all kinds of busi- 
ness in a favorable way. People would in such cir- 
cumstances begin to feel a bit more optimistic about 
the future. Wholesalers, jobbers and retailers would 
begin to stock up more largely with all kinds of com- 
modities in which they deal. Financial conditions 
would be favorable to the advance, because in a period 
of financial depression the demand for capital is rela- 
tively small, including the demand for short-time 
loans. All conditions, then, are favorable to the ex- 
pansion of business in case a profitable demand arises 
for additional products of industry. A period of re- 
covery has then been reached. 



70 STANDARD BANKING 

(3) With the advent of business activity an in- 
creased number of people are willing to invest addi- 
tional capital for an expected future demand. A will- 
ingness manifests itself to extend railroads, to enlarge 
factories or build new factories, to construct addi- 
tional office buildings, etc., and for the time being no 
difficulty is encountered in securing capital for such 
enterprises. This construction work necessarily cre- 
ates an increased demand for the production of 
industries which supply material for construction 
purposes, notably the iron and steel industry. Prices 
now begin to advance and perhaps advance rather rap- 
idly. This further increases business activity for the 
time being, for when prices advance profits immedi- 
ately increase, and for a very natural, simple reason. 
Wages and salaries do not move up very rapidly, not 
nearly so rapidly as prices of most commodities may 
move. Naturally, therefore, the advantages from ad- 
vance in prices goes to those persons who own the 
current products of industry. The persons who own 
the current products of industry are the active busi- 
ness men and the shareholders in corporations. In- 
creased profits naturally stimulate further enterprises, 
further construction and further investments de- 
signed to supply additional commodities of all sorts. 
Now the demand for capital may begin to outstrip 
current savings. Rates, not only for short-time loans 
but for capital which is to be invested for long periods, 
begin to advance, but the business man is perfectly 
ready to pay these higher rates, because his profits, 
owing to higher prices, are unusually large. 



STANDARD BANKING 71 

(4) This is the situation of affairs during a period 
of activity which becomes a period of normal business 
activity. When prices are moving upward profits are 
large, and errors of judgment are particularly likely to 
be made in the investment of additional capital. The 
assumption is made that profits will remain at their 
existing high level or perhaps reach a still higher 
point. Less care is exercised in such circumstances in 
making investments, and the willingness to pay fancy 
prices for the capital which is secured is marked. 
Moreover, after a time, wages do begin to advance, 
and even salaries may move up a little, though they 
are the last to be affected. The upward movement of 
wages may be more rapid after a while than the fur- 
ther upward movement of prices, although on the 
whole that does not seem to be the case. From the 
study of price statistics and wage statistics it does not 
appear that in the year or two of abnormal activity 
preceding a crisis wages in general have been moving 
up more rapidily than prices. The serious cause for 
trouble in the labor situation is to be found elsewhere. 
The increased activity of business necessarily means 
full employment for everybody and competition for 
workmen and a larger amount of overtime. The re- 
sults are higher costs of production. Men are taken 
on rapidly, and the average efficiency of the men is 
lowered, partly because men are naturally not so effi- 
cient when they know they can with perfect ease get 
another equally good and perhaps better position, 
partly because of inadequate training, since business 
is so active that there is not time to train the newer 



72 STANDARD BANKING 

men taken on, and partly because of overstrain. Men 
can work overtime for a short period without affecting 
their efficiency, but a good deal of overtime is bound 
to lessen the average output per hour of the workman. 
All of these elements tend to increase the labor cost 
of production toward the close of active business, and 
all of these are factors quite independent of the 
amount of wages paid. 

(5) In a period of very active business, also, there 
is less time to devise and put into operation further 
arrangements for lessening cost. The thing which 
seems important is to get out product and get it out 
as rapidly as possible. Just because profits have been 
large, business men are prepared to take more risks. 
They are prepared to extend their operations unduly 
on the capital which they themselves have invested in 
their business. They trust that everything will come 
out all right, even though they allow a good many 
bills payable to accumulate; and even though they are 
granting more and more credit to their customers. 
Balance sheets show an increased amount of receiv- 
ables, and an increased amount is borrowed on short 
time. When the supply of capital available for long- 
time investment becomes a scarcity, when it becomes 
difficult to float issues of bonds, or to secure money 
through additional preferred or common stock, a busi- 
ness which is expanding its operations is likely to 
attempt to do so on the basis of an increased amount 
of short-time credit. Now a concern which has bor- 
rowed a large amount on short time is in a very vul- 
nerable position. If anything happens which delays 



STANDARD BANKING 73 

collections very much, or if anything happens to banks 
which makes them desire to contract loans, such an 
overextended business gets into difficulties. More- 
over, if anything happens which tends to check the 
upward movement of prices, which causes profits to 
decline, it will have a serious effect upon such a busi- 
ness, for after all one of the considerations taken into 
account in granting short time credit is the high earn- 
ing power of the borrowing concern. If it is evident 
that the earning power is lessened, banks may be in- 
clined to curtail loans. 

(6) All the conditions, therefore, tend to become 
unfavorable in a period of general business activity. 
The situation becomes one in which comparatively 
slight disturbing influences may cause a collapse. It 
is, however, impossible to predict just when a collapse 
will come. Sometimes the business situation changes 
slowly from one of business activity to one of depres- 
sion, without any striking or dramatic circumstances. 
That is, however, not the rule. As a rule, a crisis 
marks the transition between business activity and 
business depression. At the end of a period of very 
active business, an exceptionally large number of con- 
cerns are in a position where anything which lowers 
their earning power, or which delays the payment to 
them for what they have sold, will put them into diffi- 
culties. These difficulties may be only temporary, if 
the earning power is good, but whether they are tem- 
porary or permanent the immediate effect is pretty 
much the same — it weakens the banks, it destroys con- 
fidence in the immediate future of business, and brings 



74 STANDARD BANKING 

home to people generally that it is highly probable 
that over all the field of industry there are presumably 
many weak and overextended concerns. When 
people begin to feel this way about the situation, they 
naturally cancel all plans for future investment which 
they can by any means cancel. Plans for construction 
work of all sorts are given up, and the demand for the 
various materials which go into construction work 
falls off. Prices drop, and with the fall of prices prof- 
its drop, and many concerns which were based upon 
the assumption that profits would continue at the rate 
at which they were when those enterprises were 
started go to the wall. Then is seen the beginning of 
a period of depression once more, which after a time 
will be used for another business house cleaning. 
Crises may degenerate into panics or they may not, 
and it does not depend so much upon the severity of 
the crisis as it does upon the character of the banking 
system. When a crisis comes on, people engaged in 
business attempt to strengthen themselves against a 
storm. They do it in two ways — by deferring pay- 
ments to others and by seeking to get paid by others 
and seeking to borrow from banks. The demand for 
accommodation from the banks is invariably increased 
when a crisis comes along. The proceeds of such 
loans are commonly not used, but are wanted as a sort 
of insurance or backlog. 

(7) Under such circumstances, the contraction 
of loans by banks not only makes the general business 
situation for the moment more unsatisfactory, but it 
also lessens public confidence in the banks and leads 






STANDARD BANKING 75 

people to withdraw money from the banks, thus still 
further strengthening the tendency of the banks to 
force contraction. In our various crises this course 
has been followed until panic conditions have been 
created, and until the banks have realized that it was 
impossible to insist upon further contraction because 
it would involve general ruin. The banks have then, 
when forced by panic conditions, continued loans and 
have also sometimes suspended cash payments. In 
other countries, and it is hoped in this country under 
the Federal Reserve System, the contraction of loans 
in crises is not insisted upon simply for the purpose 
of strengthening the banks. It is hoped that there 
will be sufficient cash and credit available so that loans 
will not be contracted at such times, but that a suffici- 
ent increase in loans will be made to meet the needs 
of the business community. If we get such conditions 
crises will not in the future in this country degenerate 
into panics. 



CHAPTER HI 



Banks and Banking 

THE keystone of American banking is the Fed- 
eral Reserve System. Although the law cre- 
ating this system was not passed until De- 
cember 23, 1913, and although the Federal Reserve 
banks did not open their doors for business until 
November of the following year, the Federal Reserve 
System to-day is by far the largest and strongest cen- 
tral banking system in the world. During the war 
it rendered incalculable services to the United States 
and its Allies — services so great that the Allied cause 
probably could not have been financed without it. 

PLAN OF ORGANIZATION.— Under the 
Federal Reserve law the country is divided into 
twelve Federal Reserve Districts, in each of which 
there is a Federal Reserve bank. All of the Federal 
Reserve banks are under the general control of a body 
of men in Washington known as the Federal Reserve 
Board. In determining the boundaries of these dis- 
tricts, the law required the authorities to have "re- 
gard to the convenience and customary course of busi- 
ness," and to make each district large enough to pro- 
vide the minimum capital of four million dollars re- 
quired by law for a Federal Reserve bank. No one 
of the twelve banks was to be made so large as to 
dominate the others. Territorially, the districts vary 
widely in size. The San Francisco district, for ex- 

76 



.^ 



STANDARD BANKING 77 

ample, covers nearly fourteen times the area of the 
New York district, although the San Francisco Fed- 
eral Reserve Bank has only about one-fourth the re- 
sources of the New York Federal Reserve Bank. 

MEMBERSHIP IN THE FEDERAL RE- 
SERVE SYSTEM.— All National banks are required 
by law to be members of the Federal Reserve system, 
while State banks and trust companies which mea- 
sure up to certain standards as to amount of capital, 
character of business, and amount of reserve, are per- 
mitted and encouraged to join. Every bank joining 
the system must subscribe to the stock of the Federal 
Reserve Bank of its district an amount equal to six 
per cent of the member bank's capital and surplus. 
One-half of this subscription, namely, three per cent, 
must be paid in promptly and the other three per cent 
is payable on the call of the Federal Reserve Board. 
This stock yields the member banks a six per cent 
cumulative dividend, which is fixed by law. The stock 
must be retained as long as the bank continues to be 
a member of the Federal Reserve System. If the 
member bank goes out of business or for any other 
reason ceases to be a member of the Federal Reserve 
System its Federal Reserve bank stock will be re- 
deemed at par. 

FEDERAL RESERVE BANK DIRECTORS. 
— Each Federal Reserve bank is under the control of 
a board of nine directors, which are divided into three 
classes of three directors each. These classes are 
known respectively as Class A, Class B, and Class C 
directors. Class A directors are bankers, Class B 






78 STANDARD BANKING 

directors are business men or farmers, representing 
the business community, and Class C directors rep- 
resent the public at large. Each director holds office 
for three years, and one director of each class retires 
every year. The banks of a district are classified into 
three groups, representing (1) the large banks, (2) 
the middle-sized banks, and (3) the small banks. 
Each of these groups select, on the basis of one vote 
for each bank, one Class A director and one Class B 
director. Class C directors are appointed by the Fed- 
eral Reserve Board. One of the Class C directors, 
who must be a banker, is made Chairman of the 
Board. 

FEDERAL RESERVE BOARD.— Above the 
twelve Reserve banks and coordinating them is the 
Federal Reserve Board with headquarters at Wash- 
ington. The Board is assisted by a Federal Reserve 
Council, consisting of twelve members, one being ap- 
pointed by the Board of Directors of each of the 
twelve Federal Reserve banks. In this way the banks 
of the country are closely knit together into one com- 
prehensive organization. All interests are represent- 
ed, while the general public interest is made dominant 
through the control, in matters of broad policy, exer- 
cised by the Federal Reserve Board at Washington 
directly and through its three representatives in each 
Federal Reserve bank, namely, the Class C directors. 
The chief functions of the Federal Reserve System 
are: (1) to centralize and render mobile the country's 
bank reserves; (2) to provide an elastic bank note and 
bank deposit currency; (3) to provide an efficient 



\ 



STANDARD BANKING 79 

system for the clearing and collection of checks; (4) 
to serve as a depository and fiscal agent of the federal 
government; and (5) to act as the conservator of the 
American money market. 

BANK RESERVES CENTRALIZED AND 
MOBILIZED.— Under the Federal Reserve System, 
the reserve money of the country, instead of being 
widely scattered as formerly in thousands of banks, 
is largely centralized in the twelve Federal Reserve 
banks. In fact all legal reserves of National banks 
and of the majority of State banks and trust compan- 
ies belonging to the system now consist of deposits 
in their respective Federal Reserve banks. All mem- 
ber banks, of course, carry some cash in their own 
vaults for till money purposes, but this till money 
cannot be counted as legal reserve. Against time de- 
posits all National banks are required to keep a legal 
reserve of three per cent; and against demand de- 
posits National banks in central reserve cities must 
keep a legal reserve of thirteen per cent, those in re- 
serve cities a legal reserve of ten per cent, and those 
in other cities, a legal reserve of seven per cent. Many 
commonwealths authorize State institutions joining 
the Federal Reserve System to substitute for the legal 
reserve requirements of State law those of the Fed- 
eral Reserve law. 

Centralized as it is in a dozen large reservoirs 
which are closely piped together, this vast sum of 
reserve money can be quickly directed at any time to 
the places where it is most needed. If, for example, 
funds are comparatively plentiful in the New York 



80 STANDARD BANKING 

district, and scarce in the Chicago district, they may 
be quickly diverted from New York to Chicago (1) 
through the rediscounting by the New York Federal 
Reserve Bank of the paper of the Chicago Federal 
Reserve Bank, or (2) through the increasing sale in 
the New York market by Chicago banks and by brok- 
ers of bankers' acceptances, trade acceptances and 
other commercial paper from the Chicago district. 
Such paper has been made highly marketable 
throughout the country by the fact that it can be 
readily turned into cash at any Federal Reserve bank 
by the process of rediscount or sale. 

DISTRIBUTION OF RESERVE FUNDS.— 
Within any Federal Reserve district, reserve funds 
may likewise be easily turned to the point of greatest 
need. Through the natural reduction of rediscounts 
and loans by a Federal Reserve bank for banks in 
those parts of its district where funds are compara- 
tively plentiful and through the increase of advances 
to banks in those sections where funds are in greater 
demand, the bank reserve strength of the district can 
be so distributed as to give its maximum efficiency 
and take care of the varying seasonal needs of the 
different sections. Within a district, moreover, just 
as among the different districts, there has been made 
possible an easy flow of bank funds from section to 
section through the open discount market which has 
been largely created by the fact that the Federal 
Reserve bank is always ready to rediscount or pur- 
chase high grade business paper of short maturities. 

BANK NOTES AND DEPOSIT CURRENCY 



STANDARD BANKING 81 

ELASTICITY.— A second important function of the 
Federal Reserve System is the service it renders in 
providing an elastic bank-note and deposit currency. 
A member bank needing funds may obtain them from 
its Federal Reserve bank by rediscounting eligible 
acceptances and commercial paper, or by borrowing 
on its own notes collateralled by eligible paper or by 
the Government debt. It may have the proceeds 
placed to its credit as reserve money on which it may 
expand its loans and deposits, or it may take the pro- 
ceeds in Federal Reserve notes, which it may use as 
till money. To a member bank, Federal Reserve 
notes and Federal Reserve deposits are intercon- 
vertible. It may deposit notes and obtain a deposit 
credit, or it may check against a deposit credit and 
obtain Federal Reserve notes. When it borrows from 
its Federal Reserve bank, it takes the proceeds of its 
loan in the form or in the proportions between the 
two forms that best meet its needs. The expansion 
is in Federal Reserve circulating credit. The member 
banks in meeting the needs of the public largely de- 
termine the form, whether Federal Reserve notes or 
bank deposits, in which that expansion shall take 
place. While a Federal Reserve bank is normally re- 
quired to hold a cash reserve at least equivalent to 
thirty-five per cent of its deposits, and a gold reserve 
of not less than forty per cent of its outstanding 
notes, these limits are not absolutely fixed, and in 
times of emergency they may be reduced under cer- 
tain safeguards and penalties laid down in the law. 
As the demand for money later slackens, say after 



82 STANDARD BANKING 

the crop moving period is over, member banks reduce 
their obligations to Federal Reserve banks by paying 
off their loans, with the result that Federal Reserve 
notes are retired, and Federal Reserve bank deposits 
are reduced. 

FEDERAL RESERVE NOTES AND FED- 
ERAL RESERVE BANK NOTES.— Federal Re- 
serve notes, it should be observed, are obligations of 
the United States Government, and a "first and para- 
mount lien on all the assets" of the issuing Federal 
Reserve bank. They are supported by the specific 
pledge with the Federal Reserve agent of high grade 
collateral amounting to at least one hundred per cent 
of their value. These notes are as strong as the 
United States Government itself. Federal Reserve 
banks issue another form of paper money which is 
known as Federal Reserve bank notes. Federal Re- 
serve bank notes are bond-secured notes which differ 
from the National bank notes practically only in the 
fact that they are issued by Federal Reserve banks 
instead of by National banks. 

CLEARING AND COLLECTING CHECKS.— 
A third function of the Federal Reserve System is to 
provide an efficient system for clearing and collecting 
checks. Each Federal Reserve bank exercises the 
function of a clearing house in its district for member 
banks and for qualified non-member banks known as 
clearing member banks. From such banks in its dis- 
trict the Federal Reserve bank will receive at par 
checks drawn on all member and clearing member 
banks and on all other non-member banks, which 



STANDARD BANKING 83 

agree to remit at par through the Federal Reserve 
bank of their district. Clearing and collection ser- 
vices for members and clearing member banks and 
for other Federal Reserve banks are also rendered 
by each Federal Reserve bank in the case of checks 
received from outside the district which are drawn 
upon member and clearing member banks of its dis- 
trict and upon all other non-member banks of its dis- 
trict whose checks can be collected at par by the 
Federal Reserve bank. Recently Federal Reserve 
banks have extended their free collection system to 
cover items like promissory notes, trade bills, time 
drafts, acceptances, and coupons. 

GOLD SETTLEMENT FUND.— An impor- 
tant feature of the clearing and collection system is 
the gold settlement fund (and the separate but simi- 
lar Federal Reserve agents' fund). The gold settle- 
ment fund consists of gold belonging to the respective 
Federal Reserve banks and held for safe-keeping in 
the United States Treasury. The sums belonging to 
the twelve Federal Reserve banks are made payable 
to the order of the Federal Reserve Board. Pay- 
ments among Federal Reserve banks are effected 
daily by telegraph through debits and credits on the 
books of the gold settlement fund which are kept at 
Washington by the Federal Reserve Board. 

GOVERNMENT DEPOSITARY AND FIS- 
CAL AGENT.— A fourth function of the Federal Re- 
serve System is to serve as a depositary and fiscal 
agent of the United States Government. The Fed- 
eral Reserve banks act as depositaries of the general 



84 STANDARD BANKING 

funds of the United States Government, and with 
the discontinuance of the sub-treasuries, the Federal 
Reserve banks have the custody of Government 
trust funds, and perform other functions formerly 
entrusted to the sub-treasuries. The Federal Reserve 
banks transfer funds from place to place for the 
Government without charge. They make temporary 
advances to the Government when needed. They act 
as fiscal agents of the Government in the issue, con- 
version, and payment of the Government debt, and 
in the payment of interest. In this connection they 
rendered services to the Government of immense 
value during the great war, for upon them fell a large 
part of the responsibility for organizing the great 
Liberty Loan and Victory Loan campaigns, for float- 
ing the numerous large issues of certificates of in- 
debtedness, and for administering in behalf of the 
Government the securities representing these vast 
loans. 

CONSERVATOR OF AMERICAN MONEY 
MARKET.— The last of the important functions of 
the Federal Reserve System is the general one of 
acting as the conservator of the American money 
market. The Federal Reserve System is a great 
public trustee. Upon it the public must largely de- 
pend for the conservation and regulation of the 
American money market. The Federal Reserve 
authorities have great power, and with that power 
goes a large public responsibility. In meeting this 
responsibility their chief weapon — although not their 
only one — is the power to raise and lower the Ameri- 



STANDARD BANKING 85 

can discount rate through varying the discount rates 
of the twelve Federal Reserve banks. By raising their 
rates, and if necessary taking vigorous measures to 
make their higher rates effective, the Federal Reserve 
banks have the power to curb a runaway money 
market and to prevent a dangerous outflow of gold; 
in other words, to prevent an expansion of credit 
which, if unchecked, might be disastrous. By lower- 
ing the discount rates, on the other hand, when the 
prospects are brightening, they may stimulate a need- 
ed credit expansion. 

FIRST UNITED STATES BANK.— The Fed- 
eral Reserve System is an evolution of circumstances 
and experience. There were, at the close of the 
American Revolution, probably not more than three 
or four well established and sound banks in the Unit- 
ed States, so that the organization of a National in- 
stitution which should have branches scattered over 
the country and which should be practically the re- 
presentative of the Federal Government was pecu- 
liarly desirable. Such an institution was created in 
1791, upon the recommendation of Alexander Hamil- 
ton, the first secretary of the Treasury, and became 
known as the First Bank of the United States. The 
bank had a capital of $10,000,000, divided into 25,000 
shares of $400 each. Of this sum $8,000,000 was 
open to subscription by the public, while the other 
$2,000,000 was to be subscribed by the United States 
and paid in ten equal installments with interest at 
6 per cent. The subscriptions to the stock were to 
be paid at least one-fourth in specie and the balance 



86 STANDARD BANKING 

in government bonds. Each shareholder was entitled 
to cast one vote for one share, one vote for the next 
two shares and so on according to a declining scale 
up to thirty votes, which was the maximum number 
of votes that could be cast by any one person or con- 
cern. The power to inspect all the affairs of the 
bank except the accounts of private individuals was 
given to the head of the Treasury, and he was also 
authorized to call for reports as often as once a week 
if he chose. Simple asset-currency bank notes were 
authorized to be issued. The bank was not permitted 
to become indebted for amounts greater than its 
capital stock over and above the amount of its de- 
posits — a restriction that practically limited the issue 
of notes to an amount not in excess of the capital 
stock. The notes were made receivable for public 
dues as long as they should continue to be payable 
in gold and silver. There were no legal reserve re- 
quirements against either notes or deposits. The 
bank was allowed to establish branches wherever the 
directors saw fit, but only for discount and deposit. 
No trade of any kind could be conducted, and the 
bank was not allowed to hold real estate, though it 
might lend on mortgage security. The bank was to 
transact much of the fiscal business of the Govern- 
ment. It was given an exclusive National charter 
for twenty years. The First United States Bank 
proved to be a great success, rendering the currency 
of the country more stable, supplying much needed 
banking accommodation, providing a note currency 
which was on the whole satisfactory, and render- 



STANDARD BANKING 87 

ing valuable fiscal services to the Government. The 
bank forced upon many State banks the obligation of 
redeeming their circulating notes upon demand. 
Throughout its history it maintained itself in a strong 
position. Nevertheless, there was considerable op- 
position to the bank from the first, and this oppo- 
sition grew stronger as the time came for the expi- 
ration of its charter. The bank stockholders were of 
course desirous of continuing the institution, and as 
early as 1808 petitioned for a renewal. Their appli- 
cation was supported by Secretary of the Treasury 
Gallatin, who showed that the Government had been 
well served by the bank and incidentally had made 
a handsome profit on its stock, besides earning divi- 
dends averaging 8% per cent per annum. An exceed- 
ingly strong situation was occupied by the bank at 
this time, as it had on hand about $5,000,000 in specie, 
while its loans and discounts were $15,000,000, con- 
sisting chiefly of short-time paper. The opposition 
was due in part to the fact that a large proportion 
of the bank's shares was owned abroad, and that 
profits, therefore, went to foreign stockholders. The 
antagonism, moreover, of the State banks, which had 
been growing in number, was very strong. After a 
bitter struggle, Congress declined to renew the 
charter, and the bank went out of existence in 1811. 
SECOND UNITED STATES BANK.— It was 
an unfortunate time at which to make a change in 
the system of banking. The War of 1812 was on the 
point of breaking out, and the public and the Govern- 
ment more than ever needed the aid of a strong 



88 STANDARD BANKING 

financial institution. The State banks in this period 
of National crisis proved to be weak reeds for the 
Government to rest upon. Conditions became so bad 
that fresh proposals were put forward for the organi- 
zation of a new United States bank. Congress finally 
passed a law in 1816 authorizing the Second United 
States Bank. The Second United States Bank was 
in most respects like the first, although it was much 
larger. The capital was $35,000,000, one-fifth being 
subscribed by the Government, and four-fifths by the 
public. In order to be assured of an exclusive charter 
for twenty years the bank paid the Government a 
bonus of $1,500,000. The bank was not well managed 
during the first few years of its existence, but later 
was placed in sane hands and applied a rigid system 
of control over the State institutions through insist- 
ing on their keeping their notes redeemed in coin 
upon presentation. Branches were established here 
and there as needed, and the note currency issued 
by the bank became a practically universal circulating 
medium. Although the bank carried on various ope- 
rations that were probably outside the scope of its 
charter, and did not conform entirely to the limi- 
tations with respect to methods of issuing circulating 
notes, it was undoubtedly the most powerful and best- 
managed financial institution the country had seen, 
and its effect was to supply a far higher degree of 
convenience and efficiency in making payments than 
had ever before been experienced. The Second Unit- 
ed States Bank, however, like its predecessor, fell 
into difficulties because of political opposition. There 



STANDARD BANKING 89 

was, as usual, the antagonism of the State banks, 
which were restive under the restraining authority 
of the overshadowing Federal institution and desired 
to see it done away with that they might get more 
business and be freer to do as they chose. Beside this 
there were large general influences of a political 
character militating against the bank, and the per- 
sistent opposition of President Jackson focused all 
this antagonism in an irresistible way. A re-charter 
was consequently refused, just as it had been in the 
case of the First Bank of the United States, and the 
result was that the bank obtained a charter for thirty 
years from the State of Pennsylvania in 1836, thus 
becoming a State institution and retaining its original 
$35,000,000 capital. Up to this point the bank had 
occupied a sound position for many years, but it now 
found itself with too large a capital for the more re- 
stricted field in which it was compelled to operate. 
The result was that loans of a doubtful character 
were undertaken, and that the bank was finally 
obliged to suspend and go into liquidation in 1841. 

DEVELOPMENT OF STATE BANKING.— 
While the Second Bank of the United States had been 
running its course, the various States had been ex- 
perimenting with different kinds of banking systems, 
some successfully and others disastrously. In the 
course of this experience, almost every type of bank- 
ing was attempted, and the result was the accumu- 
lation of a great fund of experience as to the best 
way in which not to conduct banking. Among the 
distinct types of banking systems, developed during 



90 STANDARD BANKING 

the first half century of our National life, were the 
so-called New England system, the bond secured 
system of New York State which in some respects 
was copied by our later National banking system, the 
safety fund system of New York State in which there 
was a guarantee fund provided for the protection of 
bank note holders and bank depositors, subsequently 
limited to note holders only, and the "State Banks" 
(by which is meant banks owned and operated by 
State Governments or at all events very closely con- 
trolled by them). Of all these systems the one that 
stands out as having been most conspicuously suc- 
cessful was that established in New England. One 
great element in the success of the "New England 
banking system" was found in a plan which was not 
required of the banks by any law but was the result 
of voluntary cooperation on their part. This was 
the so-called "Suffolk System of Redemption." The 
banks had found it hard to maintain constant and 
steady redemption of notes, and had observed that 
the sounder institutions suffered from the practices 
of those that were willing to go as far as they could 
in evading prompt redemption and in resorting to 
more or less questionable methods. Under the prin- 
ciple of Gresham's Law, the notes of the weaker banks, 
that did not redeem their notes promptly, tended to 
remain in circulation while those of the stronger 
banks, that redeemed on demand were quickly with- 
drawn from circulation. The result was a desire to 
enforce prompt redemption of notes, and this was 
accomplished by the so-called "Suffolk System." 



STANDARD BANKING 91 

Under this system, the New England banks joined 
in establishing a redemption office in Boston, which 
was carried on by the Suffolk Bank. This bank was 
incorporated in Boston in 1818 and a substantial 
number of New England banks joined in a plan 
whereby they each made a permanent deposit with 
the Suffolk Bank and in addition kept on deposit such 
sums as were needed for the current redemption of 
their notes. At first the country banks were unwil- 
ling to join the system, but they were finally obliged 
to yield, and make the required deposit with the Suf- 
folk Bank, which thereafter redeemed their notes at 
par when presented, charged them up to the banks 
that issued them, and sent them home whenever de- 
sired. This was tantamount to the establishment of 
a clearing house for bank notes. The Suffolk system 
thus furnished a striking object lesson of the good ef- 
fects of prompt redemption of bank notes and was 
very influential in later banking legislation. 

BANKING DEVELOPMENT PRECEDING 
THE CIVIL WAR.— The success of the First and 
Second United States Banks naturally led to the 
growth of imitations, and a number of State banks 
modeled upon the Federal institution were estab- 
lished. Thus the States of South Carolina, Ohio, 
Indiana, and some others created State institutions. 
Some of these institutions proved exceedingly suc- 
cessful, while others were failures. Out of all these 
conflicting systems, there developed a gradual ten- 
dency toward better banking conditions and wiser 
management. After the discontinuance of the Second 



92 STANDARD BANKING 

Bank of the United States, there ensued a severe 
panic, starting in 1837, due in part to unwise banking 
and the undue extension of credit upon improper or 
inadequate security. The result was to warn the 
banks against repetition of the practices which had 
led to inflation and disaster. There was a gradual 
improvement in methods between 1840 and 1860. But 
the evils of a decentralized, widely diffused and un- 
controlled system of banking, or lack of system, con- 
tinued to exist. At the opening of the Civil War, 
there were more than 1,600 kinds of bank notes in 
circulation. Counterfeits were numerous, and, except 
for voluntary arrangements made by groups of banks 
among themselves, there was nothing to compel 
banks to receive the notes of other banks. Redemp- 
tion facilities were crude and inefficient throughout 
most of the country, and there was a strong feeling 
in favor of some change, in the direction of more 
powerful central control, that would guarantee a 
safer and more uniform note issue. 

INDEPENDENT TREASURY SYSTEM.— 
Meanwhile the Government, discouraged and an- 
noyed at the experience it had had after the discon- 
tinuance of the Second Bank of the United States, 
had established the so-called Independent Treasury 
System. Prior to the establishment of this system 
the deposits of the Government, formerly kept with 
the Second Bank of the United States, were distrib- 
uted among a number of State banks. The panic of 
1837 and the resulting suspension of payments em- 
barrassed the Government and enforced the necessity 



STANDARD BANKING 93 

of getting some plan that would retain the funds 
under the real control of the Federal administration. 
After various expedients had been suggested, and 
their adoption had been unsuccessfully sought, Con- 
gress created the Independent Treasury System, mak- 
ing it permanent in 1846. This system existed down 
to the year 1920, when a law was passed providing 
for its gradual discontinuance and for the transfer 
of most of its functions to the Federal Reserve banks. 
The idea of the Independent Treasury System was 
that the Government should entirely disassociate it- 
self from the banks and should pay and receive only 
coin, keeping its funds physically in its various sub- 
treasuries, of which nine were ultimately established. 
With the passage of the National Banking Act how- 
ever during the Civil War, the original independent 
system was greatly weakened and the Government 
inaugurated the policy of using National banks to 
a considerable extent as depositories of Government 
funds. 

Commercial Banks 

NATIONAL BANKS.— National banks had 
their origin during the Civil War, in the Acts of 
February 25, 1863, and June 3, 1864. Just then the 
Union Government was having a serious time in 
meeting the enormous expenses of the war, the paper 
money of the country, both the notes of State banks 
and the various issues of United State Government, 
were in a deplorable condition and had been at a dis- 
count in terms of gold since December 30, 1861. This 



94 STANDARD BANKING 

unfortunate condition of the currency, with gold and 
silver practically all driven out of circulation except 
on the Pacific coast, and with the United States notes 
("greenbacks") greatly depreciated, was the strong- 
est single reason for the establishment of the National 
banking system. This system, it was hoped, would 
give greater uniformity and stability to our currency. 
A second reason, almost equal in importance, was the 
fact that the new National banks were expected to 
create a market for United States Government bonds 
because each bank was required to invest a certain 
proportion of its capital in United States bonds, and 
all bank notes issued by National banks were required 
to be secured by such bonds in the proportion of $100 
in bonds (market value or par value, whichever was 
the lower) for each $90 of bank notes issued. There 
were other reasons favoring the establishment of the 
National banking system, but these two were the 
most important. An act was passed in 1865 to go 
into effect in 1866 imposing a Federal tax of 10 per 
cent a year on all issues of State bank notes. This 
tax, which was contemplated when the National Bank 
Act was passed, was intended to force the State bank 
notes out of circulation, giving the National bank 
notes exclusively the field of bank note circulation. 
It succeeded in its purpose. From 1866 to the in- 
auguration of the Federal Reserve System in 1914 
National banks had a monopoly of the bank note 
issuing privilege. The National Banking Act, al- 
though frequently amended in minor particulars, has 
remained fundamentally unchanged down to the 



STANDARD BANKING 95 

present time except for the modifications wrought by 
the establishment of the Federal Reserve System in 
1914. 

NATIONAL BANK CAPITAL AND SUR- 
PLUS. — The National banking system is a system 
of numerous independent banks which (except for a 
few State banks retaining their branches when re- 
organized as National banks and for foreign branches 
of which a number have been established since 1914) 
are not permitted to have branches. Minimum limits 
are placed upon the amount of capital a National 
bank must have, the minima varying with the popu- 
lation of the city or town in which the bank is located. 
In places of 3000 population or under the minimum 
capital is $25,000; in places above 3000 population 
and not exceeding 6000 the minimum capital is 
$50,000; in cities above 6000 population and not ex- 
ceeding 50,000 it is $100,000; and in cities above 
50,000 population it is $200,000. The law requires 
every National bank to carry to surplus each half 
year one tenth of its net profits, before declaring 
dividends, until the surplus shall amount to twenty 
per cent of the capital stock. Banks frequently 
organize with this minimum surplus of twenty per 
cent paid in by the stockholders. Most National 
banks accumulate surpluses as soon as practicable in 
excess of this legal minimum. The great bulk of our 
National banks are banks of small capital and sur- 
plus. All National banks are required to be members 
of the Federal Reserve system, and to invest in the 
stock of the Federal Reserve bank of their district, 



96 STANDARD BANKING 

an amount equal to 3 per cent of their capital and 
surplus. An additional 3 per cent may be required 
by the Federal Reserve authorities. 

NATIONAL BANK NOTES.— Any National 
bank may issue bank notes up to an amount not ex- 
ceeding the amount of its capital stock, but these 
notes must all be specifically secured by a pledge of 
United States bonds of a market value of at least 
100 per cent of the notes issued. These bonds are 
deposited in the Treasury of the United States, ex- 
cept where lawful money to the full value of the 
notes is deposited in the treasury in exchange for 
bonds and for the purpose of retiring the bank notes. 
For the redemption of National bank notes in Wash- 
ington the issuing bank maintains on deposit in the 
United States Treasury an amount of lawful money 
not less than 5 per cent of its notes outstanding. The 
United States Government guarantees the redemp- 
tion of National bank notes, and to enable it to do so, 
it has not only the United States bonds pledged with 
it to secure bank note issues, but it has also a prior 
lien on all the assets of the issuing bank, including 
the double liability of stockholders. Our National 
bank notes are therefore as safe as the United States 
Government itself. They lack, however, the impor- 
tant bank-note quality of currency elasticity, since the 
amount in circulation tends to vary inversely with 
the price of United States two per cent bonds, and 
not, as it should, with the demands of trade for circu- 
lating media. Since 1914 the elastic element in our 
bank note circulation is provided by Federal Reserve 



STANDARD BANKING 97 

notes. National bank notes are not legal tender ex- 
cept in payments from one National bank to another. 
They are receivable, however, for all public dues ex- 
cept customs duties, and are payable for all salaries 
and other debts owed by the United States to parties 
within the United States, except for interest on the 
National debt and in redemption of the national 
currency. 

LIQUIDITY OF NATIONAL BANK AS- 
SETS. — National banks are preeminently commer- 
cial banks, and inasmuch as their liabilities are for the 
most part payable on demand or on short notice, it 
is desirable that their assets should consist entirely 
or chiefly of paper with short maturities, so distrib- 
uted as to bring a continual and more or less regular 
flow of cash into the bank. For meeting abnormal 
calls for funds in times of emergency the bank should 
also carry a substantial percentage of its loans and 
investments in forms that can be turned into cash 
quickly and without appreciable loss by the process 
of rediscount or sale. To the end of keeping the as- 
sets of National banks reasonably liquid and safe, 
the law imposes certain restrictions. National banks 
cannot invest in stocks (except an amount equivalent 
to 3 per cent of their capital and surplus in the stock 
of their Federal Reserve bank), although they are 
permitted to accept stocks as collateral for loans, and, 
in case of non-payment of the loan, to hold the stock 
thereby coming into their possession a reasonable 
time in seeking a favorable market for its sale. Loans 
on real estate security are not allowed except, to the 



98 STANDARD BANKING 

extent of an amount equal to one-fourth of the bank's 
capital and surplus or one-third of its time deposits, 
on real estate located in the neighborhood of the bank 
or in its Federal Reserve district, and worth at least 
twice the amount of the loan. In no case can the 
period of such a loan be longer than five years. 
National banks in central reserve cities are not allow- 
ed to make real estate loans. Any bank to protect 
itself may take a mortgage on real estate as security 
or additional security for a debt previously contracted 
in good faith, but it is not permitted to hold real 
estate coming into its possession in this way or any 
other way for a longer period than five years. It 
may, however, hold permanently sufficient real estate 
for bank premises, namely, "such as shall be neces- 
sary for its immediate accommodation in the transac- 
tion of its business." 

LOAN LIMITATION OF NATIONAL 
BANKS. — A National bank may not lend to any one 
person or concern an amount exceeding at any time 
ten per cent of the bank's unimpaired capital and sur- 
plus. This limitation does not apply to certain classes 
of two-name business paper, to "bills of exchange 
drawn in good faith against actually existing values," 
to notes secured by shipping documents, warehouse 
receipts and the like, and to notes secured by United 
States Government obligations. (Sec. 5200 of Revised 
Statutes as amended by Act of October 22, 1919.) 
A bank may not lend money on the security of its 
own capital stock nor may it purchase this stock 
"unless such security or purchase shall be necessary 



STANDARD BANKING 



99 



to prevent loss upon a debt previously contracted in 
good faith" ; in which case the stock must be disposed 
of within six months. In the early days of American 
banking there were great abuses in connection with 
the making of loans to bank directors and other stock- 
holders secured by the bank's own stock. Such loans 
weakened, and in many cases practically destroyed 
the protection to the bank's creditors supposed to be 
given by the bank's capital. Hence the foregoing 
restriction in the National Bank Act — a restriction 
that has been adopted in the banking laws of many 
of our states. The principles of commercial banking 
described in connection with National banks apply 
in general to state-chartered banking institutions. 

STATE BANKS.— State banks are organized 
under the laws of forty-eight different common- 
wealths, and while such laws are simliar in many par- 
ticulars, the differences are sufficiently great to make 
generalization inexpedient. Most State banks are 
preeminently commercial banks, although practically 
all receive savings deposits and in some the time 
deposits bulk larger than those payable on demand. 
As regards loans and investments, the restrictions im- 
posed on State institutions by the laws of most States 
are less exacting than those imposed on National 
banks by the Federal law. Loans on real estate mort- 
gages play a much more important role in State banks 
than in National Banks. In many States State banks 
can be organized with a smaller initial capital than 
$25,000, the minimum for National banks. In most 
States there are State superintendents of banks, or 



100 STANDARD BANKING 

other officers or commissions charged with the super- 
vision of State banks. Minimum legal reserve re- 
quirements are found in most States, although they 
differ widely. A number of States (about one-fourth 
of the total) permit State institutions which belong 
to the Federal Reserve system to substitute the legal 
reserve requirements of the National banking law for 
those otherwise applicable to State institutions. 
Most States permit part of the legal reserve of State 
banks to consist of deposits in certain other banks, 
and some even include as legal reserve, within limits, 
certain kinds of high grade securities. The establish- 
ment of branch banks is usually greatly restricted 
when not prohibited, a fact due chiefly to the wide- 
spread fear of the monopoly powers that might be 
exercised by large banks with numerous branches. 

Fiduciary Corporations 

TRUST COMPANIES.— Formerly individuals 
were always appointed to act in trust capacities, but 
in the evolution of the business structure it became 
evident that individuals could not always be depended 
upon to act faithfully or intelligently while complica- 
tions were often caused by their moving away or 
dying before the fulfillment of their trust. Such con- 
ditions made it apparent that corporations whose ex- 
istence and location would be permanent, and under 
the management of men of integrity and proper train- 
ing, would find favor with the public, and conse- 
quently such corporations were created. The various 
capacities in which trust companies ordinarily act 



STANDARD BANKING 101 

are as (1) executors of wills, (2) administrators of 
intestate estates, (3) trustees under wills and deeds 
of trust, (4) guardians of minors, (5) conservators or 
committees of incompetents, (6) agents for individ- 
uals, (7) transfer agents and registrars for corpora- 
tions, (8) fiscal agents for governments, municipali- 
ties and corporations, (9) trustees under mortgages, 
(10) assignees and receivers for firms and corpora- 
tions, (11) guarantors of surety bonds and real estate 
titles. While there are generally several departments 
in a representative trust company, the business really 
comes under but two headings, the banking depart- 
ment and the trust department. The banking de- 
partment is conducted in general accordance with the 
methods used in commercial banks. The trust de- 
partment has charge of all fiduciary matters. In 
States where State laws permit, National banks may 
exercise the functions of trustee, registrar, executor 
and administrator by permission of the Federal Re- 
serve Board. In a number of States, State banks are 
also empowered to exercise fiduciary functions. 

FIDUCIARY FUNCTIONS. — Formerly indi- 
viduals were always appointed to act in trust 
capacities, but in the evolution of the business 
structure it became evident that individuals could 
not always be depended upon to act faithfully or 
intelligently, while complications were often caused 
by their moving away or dying before the fulfill- 
ment of their trust. Such conditions made it 
apparent that corporations whose existence and 
location would be permanent, and under the man- 



102 STANDARD BANKING 

agement of men of integrity and proper training, 
would find favor with the public, and consequently 
such corporations were created. The various ca- 
pacities in which trust companies ordinarily act 
are as (1) executors of wills, (2) administrators of 
intestate estates, (3) trustees under wills and deeds 
of trust, (4) guardians of minors, (5) conservators 
or committees of incompetents, (6) agents for indi- 
viduals, (7) transfer agents and registrars for 
corporations, (8) fiscal agents for governments, 
municipalities and corporations, (9) trustees under 
mortgages, (10) assignees and receivers for firms 
and corporations, (11) guarantors of surety bonds 
and real estate titles. While there are generally 
several departments in a representative trust com- 
pany, the business really comes under but two head- 
ings, the banking department and the trust depart- 
ment. The banking department is conducted in gen- 
eral accordance with the methods used in commercial 
banks and therefore requires no particular consider- 
ation in this connection. The trust department has 
charge of all fiduciary matters. 

EXECUTORS AND ADMINISTRATORS.— 
An executor is a person named in a will by a testator, 
to carry out, after the death of the testator, 
the directions for the disposal of his property as 
set forth by the terms of the will. When a person 
dies intestate, that is, without leaving a will, his 
property must be disposed of in accordance with the 
law, and to do this the probate court appoints some 
one to act. The one thus appointed is called ad- 



STANDARD BANKING 103 

ministrator. Should the administrator die or resign 
the office before the estate is settled, the court 
appoints an administrator de bonis non, that is, 
administrator of the goods not yet administered. 
Should the one named as executor in the will decline 
to act, the court appoints some one to carry out the 
directions of the will. This person is called ad- 
ministrator cum testamento annexo, that is, adminis- 
trator with the will annexed. Should an executor re- 
sign his office or die before the estate is settled, the 
court appoints an administrator de bonis non cum tes- 
tamento annexo, that is, administrator with the will 
annexed of the goods not yet administered. The 
duties of executors and administrators are similar, 
viz., to settle the affairs of the deceased and distribute 
the property among the rightful heirs. Practically 
the only difference is that an executor has his course 
outlined in the terms of the will, while in the case of 
an administrator, there being no written instructions 
to carry out, he settles the affairs and makes a division 
of the property in accordance with the laws governing 
such matters. 

TRUSTEESHIPS.— Any testator, instead of 
directing that the property be given outright to the 
heirs, may leave it in the form of a trust. That is, he 
may set aside certain sums or property, to be held for 
the benefit of the person or persons named, to whom 
the income only shall be paid, or to whom 
the distribution of principal shall not be made until 
some specified future date, or until certain events 
shall have come to pass. In such a case some one is 



104 STANDARD BANKING 

named in the will as trustee, and this person takes 
charge of the estate after the executor has completed 
his duties. The trustee's duties are, to care for the 
property, invest and reinvest the principal, collect the 
income and pay it over to the person or persons as 
directed in the will. The trustee is under the author- 
ity of the probate court, and must file at stated inter- 
vals a statement of assets and transactions. The fi- 
duciary capacity thus described is known as a per- 
sonal trusteeship. In these days of huge corporations, 
and the attendant issues of bonds, it is a right due the 
investing public that some responsible agent certify 
to the genuineness and regularity of such issues. 
It has accordingly become the practice for a corpo- 
ration making an issue of bonds, to name a trust 
company as trustee of the mortgage securing the 
issue. Acting in this capacity, it certifies that the 
bonds are genuine, and issued in accordance with 
the terms of the mortgage. It does not guarantee 
as to the value or payment of the bonds, or of the 
interest, when due, but in case of the default of the 
corporation that made the issue, it would foreclose 
on the property, and protect the interests of the 
bondholders. The fiduciary capacity thus described 
is termed a trusteeship under mortgage and is classi- 
fied as a corporate trust. 

GUARDIANS AND CONSERVATORS. — A 
guardian is one appointed to assume control over 
the person, or the estate, or both, of a minor. The 
guardian of the person of a minor has control 
over the habits, training, education and mainte- 



STANDARD BANKING 105 

nance of his ward. The guardian of the estate of 
a minor has charge of the property, collects the 
income and makes the expenditures for the support 
and education of his ward. The position of the 
guardian is of little less importance to the child 
than that of a parent, as he is largely responsible 
for the building of his ward's character, upon which 
much depends as to whether he becomes a good and 
useful citizen. A conservator (or committee) is 
one appointed by a court to assume control over 
the person, or the estate, or both, of an insane per- 
son, a spendthrift, an intemperate person, or one 
who is mentally incompetent. The duties are much 
the same as those of a guardian, except that he has 
charge of an adult instead of a minor. 

AGENTS FOR INDIVIDUALS.— Acting as 
agent for individuals opens a wider field of duties 
than any other capacity in which a trust company 
may act. As executor, administrator, etc., where 
the appointment comes from a court, the duties 
ordinarily run along well-defined lines, as estates 
must be administered in accordance with the laws 
governing them. But in acting for an individual, 
the things which a company will be called upon 
to do are practically unlimited. This feature of the 
business appeals particularly to professional people, 
to those who are not familiar with business 
methods, to those in ill health who cannot attend 
properly to their own affairs, to those who spend 
considerable time traveling, and to those who do 
not care to be burdened with the details connected 



106 STANDARD BANKING 

with the management of their financial affairs. In 
this capacity the company takes charge of whatever 
is intrusted to it, relieving the individuals of a part 
or all of their business affairs. It collects all forms 
of income, whether from securities or real estate, 
paying it over or holding it, as may be specified. 
It also reinvests principal, and attends to insurance, 
taxes and repairs connected with real estate. While 
certain of these agency duties do not require a 
written agreement between the trust company and 
its client, it is better practice to have such an agree- 
ment in all cases. When it is necessary that the 
company sign papers conveying title to securities 
and property of any kind, a power of attorney 
must be executed by the individual conferring 
specific powers to the company to act in such mat- 
ters. This is a branch of business that is grow- 
ing in popularity, because people are learning that 
a trust company, with is excellent facilities, can 
care for their financial affairs as satisfactorily as 
and oftentimes more so than the individuals them- 
selves. 

TRANSFER AGENTS AND REGISTRARS. 
— The great increase in the capitalization of corpo- 
rations, as well as in the number of them, has opened 
up a very profitable field for trust companies to act 
as transfer agents and registrars. In fact the stock 
exchanges in some cities make it compulsory that 
corporations appoint such agents before their securi- 
ties can be listed with them and dealt in upon their 
floors. In this way those dealing in such securities are 



STANDARD BANKING 107 

able to secure prompt deliveries of transfers, which 
otherwise would cause much inconvenience and loss 
of time were it necessary to send to the principal 
offices of corporations, which are to a great extent lo- 
cated at a considerable distance from the markets in 
which the securities are dealt in. The duties of trans- 
fer agent consist of keeping the stock books of cor- 
porations, passing upon the evidence in the change 
of title of the stock, and making such transfers as 
are in proper form, by the due recording of them 
and the issuing of new certificates to replace the 
ones cancelled. The same procedure is followed 
in the change of ownership of registered bonds, 
except that instead of cancelling the old bonds and 
issuing new ones, the original bonds are used, the 
names of new owners being noted in the spaces 
provided for such entries, after which they are re- 
turned to those presenting them for that purpose. 
The registrar's duty is to see that the stock and 
bond issues do not exceed the authorized limit. 
After a transfer has been made, the certificate is 
examined by the registrar to see that the necessary 
details in filling out have been complied with, and 
that the new certificate is for the same number of 
shares as the one cancelled, thus guarding against 
an over issue. In the case of registered bonds, such 
records are kept as will guard against an over issue 
of the series, while with an issue of bonds payable 
to bearer, the proper precautions are taken at the 
time they are put out, due records being made. In 
transferring stock, and in registering bonds, the 



108 STANDARD BANKING 

signature of one of the trust company officials appears 
in order to authenticate the transaction. 

FISCAL AGENTS. — As fiscal agent for 
governments, States, municipalities and corpora- 
tions, the trust company undertakes to pay the 
principal of and interest on bonds or other obliga- 
tions, when due, to handle the sale of bond isssues, 
negotiate loans, manage sinking funds, and per- 
form special services of a financial character. It 
also, if desired, takes charge of paying the divi- 
dends on the stock of corporations, relieving them 
of all responsibility connected with making out and 
mailing checks to stockholders, when such divi- 
dends become payable. This is a profitable busi- 
ness, because, in addition to receiving the regular 
fees for acting in these capacities, the company has 
the use of the money deposited to meet the obliga- 
tions. This money, frequently being left in its 
hands for a considerable period of time, can be 
loaned advantageously. This department also 
handles the details connected with the reorganization 
of corporations. When the plan of reorganization 
has been decided upon, notices outlining it are mailed 
to the holders of the securities with the request that 
they deposit them with the trust company. When 
the company receives the securities, receipts are 
given, and when the reorganization has been per- 
fected, distributes the new issues to the holders of 
such receipts. In the case of an assessment being 
made, the company receives the payments covering it, 
and if there are fractions connected with the new 



STANDARD BANKING 109 

issues of stock or bonds, the company adjusts them. 

ASSIGNEES AND RECEIVERS. — As as- 
signee the company takes charge of the affairs of 
insolvent business firms, realizing on the assets, 
and making proper distribution among creditors. 
As receiver it takes charge of the business of cor- 
porations which are in difficulty through financial 
embarrassment, or because of inharmonious rela- 
tions between the stockholders and officers, due to 
unsatisfactory management. Receiving appoint- 
ment in this capacity from the courts, it assumes 
control of the corporation, converting the assets 
into cash, paying off the creditors, and if anything 
remains, dividing it among the shareholders in 
proportion to their relative holdings of stock. The 
appointment of a receiver does not necessarily 
imply that the business must be liquidated. Instead, 
it frequently happens that the business is continued, 
under the management of the receiver instead of the 
officers, until such time as it is again on a paying 
basis, when the affairs are returned to the hands of 
the owners. 

TREASURERS.— One capacity, the possi- 
bilities and profitableness of which trust company 
officials and the public do not yet fully realize and 
appreciate, is that of acting as treasurer of various 
forms of institutions, such as churches and other 
religious organizations, colleges, schools, and chari- 
table, benevolent and fraternal societies. In the 
case of churches, the collections and donations are 
turned over to the company, and payments made by 



110 STANDARD BANKING 

it on orders drawn by the proper officials of the 
church. All investments owned by the church 
society are held by the company, and the income 
therefrom collected. Acting for schools, the com- 
pany receives the appropriations made by the 
municipality, paying out the funds on orders signed 
by the district chairman or committee. It receives 
payments and donations to charitable and benevo- 
lent societies, making payments as authorized, 
and in the case of fraternal orders, it receives the 
payments made by the members covering their 
dues, and pays out the funds on the proper 
authority. The trust company is well adapted 
to act for colleges, as such institutions generally 
have endowments and funds that are invested in 
real estate and securities, and the various depart- 
ments of a trust company, through the facilities 
offered, can relieve the college trustees and officials 
of all responsibilities in connection with the collec- 
tion of income, care of real estate, reinvestment of 
principal, and payment of salaries and all other 
expenses. 

INCIDENTAL FUNCTIONS OF TRUST 
COMPANIES. — Some trust companies conduct 
departments for insuring owners and mortgagees 
of real estate against loss through defective titles, 
liens and encumbrances. They also become surety 
for the faithful performance of contracts and obliga- 
tions made by corporations, firms and individuals. 
Most trust companies operate safe deposit depart- 
ments, often on a very extensive scale, and some- 



STANDARD BANKING 111 

times to the extent of providing a cold storage 
system for the keeping of furs and fabrics. The 
class of people who deal with trust companies be- 
ing so varied, information and advice regarding 
investments are constantly being sought. Conse- 
quently, many companies located in the large cities 
operate investment departments for the purpose of 
providing their clients with bonds, mortgages, etc., 
when they wish to purchase. A trust company con- 
ducting the usual number of departments is con- 
stantly being called upon to make the transactions 
necessary in the transfer of funds to and from 
foreign lands. A trust department handling any 
great amount of trust funds generally has bene- 
ficiaries who are traveling or residing abroad, and 
to whom income payments must often be made. 
In addition, letters of credit, travelers' checks, etc., 
are always in demand. It is accordingly a matter 
of convenience and profit for a trust company to 
have such connections that it can issue its own foreign 
drafts. Large trust companies generally find it neces- 
sary to place the handling of real estate matters in a 
separate department. 

TRUST FUNDS.— The investment of trust 
funds is confined to a limited class of securities, the 
idea being safety of principal and regularity and 
permanency of income. The laws regarding trust- 
fund investments are very strict in some States, 
limiting them to securities that are legal for savings 
banks. Such funds are generally invested in high- 
grade bonds, first mortgage loans on improved real 



112 STANDARD BANKING 

estate, and preferred stocks that have paid dividends 
regularly for a term of years. Some companies go 
outside these limits, and in many cases can do so 
with safety, but it is, of course, upon their own 
responsibility, and, should loss occur, they would 
be obliged to make it good. This refers only to in- 
vestments made after the trust comes into the hands 
of the company for administration. When estates 
or trusts are accepted by a company, they frequently 
contain a wide variety of securities, and the institu- 
tion cannot be held responsible for any loss coming 
to the fund through the failure of such investments. 
Registered securities belonging to trust funds are 
always put into the name of the company as trustee, 
or in whatever capacity it may be acting. In this 
way, in the event of the failure of the company, they 
cannot be held as a part of the assets to pay the 
creditors. 

Savings Banking 

THRIFT AND ECONOMY.— Savings banking 
is not confined to institutions known as "Savings 
Banks." In many communities the density of popu- 
lation does not warrant the establishment of more 
than one banking institution, which is generally a 
National bank, State bank or trust company. Such 
institutions, realizing the need of savings facilities for 
their communities, in many instances organize "sav- 
ings" or "interest" departments. A savings bank is 
a corporation organized primarily to encourage thrift 
and economy in its patrons "receiving on deposit and 



STANDARD BANKING 113 

for safe-keeping such sums, usually small, as shall be 
offered, aggregating them and investing them for the 
benefit of the depositors as a whole, repaying such 
deposits on demand or on legal notice, with such in- 
terest as the profits of the corporation will warrant." 
In so far as organization and administration are con- 
cerned, savings banks are divided into two classes — 
mutual or trustee savings banks and stock savings 
banks. Stock savings banks, as the name implies, 
have capital stock, upon which dividends are paid, 
and ownership and management are naturally vested 
in the stockholders. In the case of stock savings 
banks the shareholders also share the earnings, but 
in mutual savings banks all profits belong to and are 
held for the benefit of depositors. In all savings banks 
safety in investments is the paramount consideration 
and income only secondary. 

SAVINGS BANK ACCOUNTS.— As a general 
proposition savings banks handle three classes of ac- 
counts: (1) single name accounts, (2) trust accounts, 
(3) joint accounts. The single name account, or an 
account in the name of one person, is most generally 
used, and is payable to the depositor, his attorney or 
his legal representative after death. Trust accounts 
as well as joint accounts are frequently opened to 
avoid the expenses of administration after death, or 
the making of a will. A real trust is not created by 
the opening of a trust account. It is termed a tenta- 
tive trust or savings bank trust. In the matter oi 
Totten, a New York decision, a trust account was de- 
fined as "A deposit by one person of his own money, 



114 STANDARD BANKING 

in his own name, as trustee for another, standing 
alone, does not establish an irrevocable trust during 
the lifetime of the depositor. It is a tentative trust 
merely revocable at will, until the depositor dies or 
completes the gift in his lifetime by some unequivocal 
act or declaration, such as delivery of the passbook or 
notice to the beneficiary. In case the depositor dies 
before the beneficiary without revocation, or some de- 
cisive act or declaration of disaffirmance, the presump- 
tion arises that an absolute trust was created as to the 
balance on hand, at the death of the depositor." Joint 
accounts are generally in names of two people, being 
payable to either or the survivor of them. 

OPENING SAVINGS ACCOUNTS. —Upon 
opening an account with a savings bank, the depositor 
is asked to sign his name to the signature book or 
card, as the case may be, giving at the same time a 
description of himself for the purpose of future iden- 
tification, which usually consists of the residence, oc- 
cupation, date of birth, father's and mother's name, 
and sometimes the names of brothers and sisters of 
the depositor. In the event of the depositor not being 
able to write, note is sometimes made of the color of 
his hair and eyes, facial characteristics, etc., as a 
means of identification. These test questions may 
seem needless and savor of "red tape," but they often 
prove a protection to both the bank and the depositor. 
In spite of all these details as a method of identifica- 
tion, banks have been swindled by clever rogues, who, 
having become acquainted with the history of the de- 
positor, and having obtained possession of the book, 



STANDARD BANKING 115 

have been able to successfully imitate the signature 
and answer the test questions. Unlike the bank of 
discount, which is bound in law to know the signature 
of its depositor and pays forgeries at its peril, the 
savings bank is but required to use due care to ascer- 
tain the identity of the depositor. The correct answer 
to the test questions, together with the signature that 
would pass inspection, has been held to be due care — 
provided there was nothing to excite the suspicion 
and inquiry of an ordinarily careful and competent 
bank official. 

SAVINGS BANK PASSBOOKS.— At first 
sight it would seem that in signing the signature card, 
the depositor simply records his signature for future 
comparison. This is true in the bank of discount, but 
in the savings bank this act in law signifies assent to 
and agreement to be bound by the by-laws, copy of 
which is generally found in the passbook, and that 
portion affecting the depositors is in many States re- 
quired to be hung in the lobby of the bank. When a 
depositor walks out with his book, he takes with him 
a contract, by which the bank has agreed to do certain 
things, and he likewise has agreed to do certain 
things, to which both are legally held. The passbook 
of a bank of discount is memorandum receipt merely, 
and is not intended to show the true state of the de- 
positor's account until left for balance; but the sav- 
ings bank book has been held to be in the nature of a 
voucher or evidence of the amount due, and is in- 
tended to show the correct balance at all times, aside 
from the accrued interest that may not have been en- 



116 STANDARD BANKING 

tered, as in many States no payments are made with- 
out the book. If, in this contract, the bank agrees to 
use its "best efforts to prevent fraud" as many banks 
have done to their sorrow, the law will inquire if it has 
really used its "best efforts." If, however, it agrees 
to pay anyone who presents the book, this modifica- 
tion does not permit the officers to carelessly shut 
their eyes and pay any person presenting the pass- 
book, but on the contrary they owe the depositor ac- 
tive vigilance in order to detect fraud and forgery. 
Even though the depositor does not read the by-laws, 
if he retains the passbook containing them he will be 
held by implication. The fact that he cannot read, 
or that the language is one he does not understand, 
will not be considered valid excuse in law; and if his 
deposits and drafts are continued over a considerable 
period of time, these transactions in themselves will 
be considered as an agreement to the conditions under 
which they were made. 

SAVINGS BANK DEPOSITS.— After receiv- 
ing his passbook upon opening an account, the de- 
positor in making future deposits presents his book 
and money at the receiving teller's window, together 
with a deposit slip for the amount deposited. After 
verifying the amount named by the depositor, 
the teller makes out his ticket and enters 
the same on the passbook. Some banks pass the 
transaction through the hands of two or three men 
before returning the book to the depositor, in order 
that the entry may be verified, and also to prevent 
manipulation of the books. In one large bank in New 



STANDARD BANKING 117 

York no entries are made on the passbook by hand, 
all items being entered by a special adding machine, 
the totals being added in the machine and at the same 
time on the passbook and on a strip of paper which 
forms the basis of the cash proof. An excellent check 
on the passbook extensions is to list the balance as 
it appears on the passbook after the entry has been 
made, on the draft or deposit ticket, which is com- 
pared with the ledger balance when the item is posted. 
In some banks passbooks are compared at every trans- 
action, and others make the posting on the ledger 
while the depositor waits. Savings banks generally 
endeavor to keep the accrued interest entered in the 
passbooks, although in some of the large banks, books 
must be left for this purpose. 

SAVINGS BANK WITHDRAWALS.— Pay- 
ments of money are made in a manner similar to de- 
posits of money. The withdrawal receipt is rilled out 
by the teller and handed to the depositor for signa- 
ture. While he is signing, the book should be com- 
pared with the ledger account, and if any interest is 
due the amount is entered thereon. The test clerk 
then compares the signature with that in the files. 
The test questions are asked and if the transaction 
appears regular, the money is paid. Accounts of de- 
ceased persons, lost books, funds of societies, lodges, 
etc., joint and trust accounts, require more careful 
attention, and are usually referred to an official. Cash 
is generally used in making payments, but drafts are 
issued upon request, and for payments through the 
mails. When the funds are all drawn the book must 



118 STANDARD BANKING 

be left at the bank, where it is carefully filed for future 
use, and rarely, if ever, destroyed. Cases are on 
record where suit has been brought twenty years 
after closing an account and the old passbook has 
been important evidence in tracing the history of the 
account and the terms under which it was opened. 

LOST PASSBOOKS.— Whenever a passbook is 
reported lost or stolen and a new book is to be issued, 
one of three things (often a combination of two of 
them) is generally required: (1) Advertise the loss 
of the book for a certain length of time, calling upon 
any person having a claim to the book to present 
same before a time stated, at which time the book 
will be declared extinguished. This is to prevent 
books being assigned and reported lost and opening 
the door to frauds. (2) File an indemnity bond in an 
amount sufficient to protect the bank from loss in 
case the book turns up and a second payment is re- 
quired. This is supported by sureties often difficult 
to obtain and is gradually being abandoned. Recently 
the courts have held that a bank has not the right to 
exact a bond in such cases. (3) Affidavit of loss 
which, besides setting forth the fact of loss, shall state 
that at the time of loss the book was not pledged as 
security for any loan. To advertise the loss and to 
make affidavit of loss are ordinarily sufficient for the 
issuance of a new passbook. Many of the books re- 
ported lost are merely mislaid and by requiring the 
depositor to wait a reasonable time or go to some 
trouble and a little expense, the book is generally 
found. 



STANDARD BANKING 119 

POSTAL SAVINGS BANKS.— The United 
States Postal Savings Act was enacted June 25, 1910. 
Postal savings banks, or postal saving depositories, as 
they are officially called, are thus a recently estab- 
lished institution in the United States, although they 
have existed in most European countries for many 
years. There was agitation in the United States for 
them as far back as 1871. Postal savings banks re- 
ceive deposits in amounts from one dollar upwards. 
Deposits are evidenced not by entries in passbooks, 
but by postal savings certificates which are issued in 
various denominations from one dollar up to five 
hundred dollars. Certificates are not transferable. 
No depositor may have more than $2,500 to his credit, 
nor may he have more than one account. Interest is 
paid on the minimum yearly balance at the rate of 
two per cent a year. The funds received on deposits 
in postal savings banks are either deposited by the 
Government in banks especially designated as postal 
savings depository banks at 2 1-4 per cent interest, or 
are invested in United States Government bonds. The 
administration of the postal savings system is under 
the control of a Board of Trustees consisting of the 
Secretary of the Treasury, the Attorney General, and 
the Postmaster General. The Third Assistant Post- 
master General is Secretary of the Board. The ad- 
ministrative work is handled by the Postal Savings 
Division of the Post Office Department. This division 
is under the directorship of the Director of Postal 
Savings. 



CHAPTER IV 



Bank Operation 



THE success of any banking institution depends 
primarily upon proper organization. Banking 
institutions in the United States may be incor- 
porated under either National or State laws. The 
National Bank Act and the laws of progressive States 
provide that the capital stock of every banking in- 
stitution shall be fully paid in cash at the time of or- 
ganization or soon afterward. In times past, under 
loose banking legislation, banks sometimes opened 
with little or no capital, simply accepting the notes 
of shareholders for the bulk of their subscriptions, and 
expecting to get funds through deposits by outside 
customers. Such policy generally led to disaster, 
because the concern was usually unable to collect 
the installments due on the notes of shareholders 
when funds were needed, or, what was frequently 
the case, the same bad judgment that permitted or- 
ganization on a credit basis led to the making of bad 
loans and consequent insolvency. The early payment 
in full of capital stock in cash is a prerequisite to en- 
gaging in any sound banking business. The necessity 
of a proper start is now so thoroughly appreciated 
that in many if not most cases the subscription price 
of the capital stock of any new bank is made suffici- 
ently high to include an initial surplus. 

DIRECTORS AND OFFICERS.— Assuming 
the possession of sufficient capital and the existence 

120 



STANDARD BANKING 121 

of ample business opportunities, the successful admin- 
istration of any bank depends upon the character and 
ability of its directors, officers and employees. The 
administration of all banks, great and small — whether 
capitalized at $25,000 or $25,000,000— is scientifically 
identical. In studying bank administration attention 
should be centered upon the board of directors, in 
whom fundamental authority is vested. The duties 
and responsibilities of directors are alike in all banks. 
The delegation and distribution of authority among 
officers depend upon circumstances, but when the 
center of authority is comprehended, details may be 
readily understood. The by-laws of all banks should 
provide for (1) the appointment of an examining com- 
mittee; (2) the appointment of a discount committee; 

(3) the approval by the board of directors at monthly 
meetings or oftener of all loans and discounts; and 

(4) the recording of such approval in permanent form. 
To what extent directors should participate in the 
details of administration depends largely upon local 
and personal conditions. Minutes of all meetings of 
directors should be kept in a suitable book provided 
for such purpose. Bank officers are chosen by the 
board of directors and actively superintend and direct 
its business affairs. The size of the bank, its location 
and the amount of business done determine the num- 
ber of officers, although in every bank there are at 
least two, namely a president and a cashier. 

DUTIES OF BANK PRESIDENTS.— The 
National Bank Act, as well as the laws of most States, 
requires that one of the directors of every bank, to be 



122 STANDARD BANKING 

chosen by the full board of directors, shall be named 
president of the board. The duties of such president 
vary considerably with the size of the bank, its loca- 
tion, and other factors in the situation. The president 
may be merely an ornamental figure, or he may be the 
actual working head of the organization looking after 
the details of its business, and in a large way directing 
what goes on. In any bank of considerable size his 
work is that of general superintendence rather than 
that of particular attention to given transactions. 
Within recent years, the duties of the president have, 
however, become much more clearly defined by the 
courts than they formerly were. "When he is the 
active head of the bank, he has all the authority which 
law and custom confer on the head, regardless of the 
name of the office." A bank may have one or more 
vice-presidents, who may act successively in the ab- 
sence of the president or of other vice-presidents. 
Their legal status is not precisely the same as that of 
the president, depending in part upon the by-laws of 
the institution as well as upon its customs. The Na- 
tional Bank Act provides definitely for only one vice- 
president, giving to the board of directors the power 
"to appoint a president, vice-president, cashier, and 
'other officers.' " 

DUTIES OF BANK CASHIERS.— The duties 
of the cashier of any bank are in general to keep a 
record of the directors' meetings, sign certificates of 
stock, checks drawn on other banks, and drafts and 
notes that need endorsement, before sending them 
away to another bank for collection. The cashier is 



STANDARD BANKING 123 

also heavily burdened in the larger banks with the 
general conduct of the bank's correspondence. Be- 
sides this, he has general oversight of the internal 
affairs of the institution, the payment of expenses, 
and the condition of depositors' accounts. It may 
be advisable to give the cashier the aid of one or more 
assistant cashiers, who are then subordinate to him, 
and take over such portions of the work as he may 
entrust to them. In most trust companies, the officer 
called cashier in a bank is known as treasurer. The 
cashier is primarily responsible for all the actual trans- 
actions after lines of policy have been blocked out by 
the board of directors who are legally responsible for 
the operation of the bank. He passes on all new de- 
posit accounts, signs drafts for the disbursement of 
funds, and is custodian of the company's assets and 
the securities contained in the vaults. In trust com- 
panies, there is usually an officer called secretary who 
performs the functions of a bank cashier in keeping 
the minutes of board meetings and attending to corre- 
spondence. 

DUTIES OF OTHER BANK OFFICERS.— 
The "other officers" referred to in the National Bank 
Act as appointees of the board of directors, are 
various, depending on the business needs of the bank. 
Their titles are not uniform everywhere, although 
vice-president, assistant vice-president, and assistant 
cashier ordinarily seem to be most acceptable. Their 
duties depend altogether on the conditions existing in 
the institution with which they are connected. Next 
in rank to the foregoing officers come the department 



124 STANDARD BANKING 

heads who rank as follows: The paying teller, whose 
duty it is to disburse funds upon demand and the re- 
ceiving teller, who takes in deposits and performs 
other duties. In larger banks, there is also a note teller 
who has charge of promissory notes liquidated at the 
bank. In some banks, a discount clerk is employed, 
although in the smaller institutions he usually is iden- 
tical with the note teller. These various officers may 
have large staffs under their direction, the size of such 
staffs depending upon the business of any bank and 
the extent and rapidity of its operations. Whether 
their staffs be large or small, however, or whether the 
work in each division be done practically by one man, 
the fact remains that the type of organization is the 
same. Subordinate to these officers are a number of 
employees who facilitate their work. Probably the 
most important of such subordinate divisions is the 
bookkeeping department, which is usually in charge of 
a head bookkeeper, assisted by such subordinate work- 
ers as may be needed. There may be various other 
departments, such as a credit bureau and a collection 
department. This is largely a matter of individual 
organization and depends upon the size and scope of 
individual institutions. 

BANK ACCOUNTING.— Banks are judged by 
statements of the condition of their resources and 
liabilities. The substance of the statement of condi- 
tion of any bank is the criterion of its management. 
The form of the statement of condition is the basis 
of its system of accounting. The purpose of bank 
accounting is to show (1) what assets are in the 



STANDARD BANKING 125 

possession of the bank and (2) to whom such assets 
ultimately belong. Methods are good or bad in direct 
proportion to the accuracy and economy with which 
they accomplish the desired results. Obviously it 
is not necessary that all banks use the same bookkeep- 
ing methods, and the task for the student of banking 
is first to determine the essentials on which all banks 
agree and then to study amplifications of detail which 
meet different conditions. Accounting principles are 
the same for the country bank with a few thousands 
of deposits and for the metropolitan institution with 
hundreds of millions. The primary essential of any 
system is that there must be a permanent and accurate 
record of all transactions. Bank accounting is based 
upon the general principle of double-entry bookkeep- 
ing. Every transaction must be recorded in at least 
two accounts — one a debit and the other a credit — and 
all records must be in such form that information 
required concerning the condition of any account may 
be immediately available. Books of accounts, what- 
ever may be their typographical or mechanical form, 
are classified as "journals" and "ledgers." A "jour- 
nal" is a daily record of transactions. A "ledger" is 
a chronological record of the transactions in each 
account. A "balance book" is a statement of the net 
debit or credit balance of each of the general ledger 
accounts. Any two of these books may be combined 
into one, or in fact all three of them may be combined 
into a book of the type of the "Boston Ledger." 
Whether records are kept in bound books, loose-leaf 
ledgers or on cards, by longhand or machine methods, 



126 STANDARD BANKING 

is of little consequence, so long as the system produces 
the desired results with the greatest degree of ac- 
curacy and the least expenditure of time and money. 

Bank Statements 

OFFICIAL REPORTS.— Banks are semi-public 
institutions inasmuch as a large portion of the public 
entrusts them with funds for safe keeping, and bank- 
ing laws provide for the control and regulation of 
such institutions. No uniformity of laws prevails 
among the various States, but all conform to sound 
banking principles and in many respects are similar 
to the Federal laws as codified in the National Bank 
Act. Without exception the banking laws provide for 
periodical reports of condition to the supervising 
authorities and for the publication of these reports so 
the public in general and bank depositors in particular 
may have some information regarding the condition 
of financial institutions. At least five times each year 
the United States Government calls for a statement of 
condition at an unexpected date in order that the 
figures will represent a normal condition of the bank's 
business, unaffected by any attempt at "window dress- 
ing" on the part of the management for the purpose 
of making a temporarily good showing. For statis- 
tical purposes and for convenience in the examination 
of banks, uniform reports are made up by all National 
banks on a form prescribed and the forms used by the 
various State banking departments are designed to 
obtain pertinent facts of the same general character. 
Detailed information is sought which will enable gov- 



STANDARD BANKING 127 

ernmental authorities to judge whether the business 
of each bank is conducted in compliance with the law 
and for the protection not only of the depositors but 
also of the stockholders. The reports are not pub- 
lished in full, as they contain much information of a 
confidential nature, but in all cases the statement of 
condition is required to be published in a newspaper, 
and it is the practice of most banks to give it wide 
circulation by printing it in condensed form for public 
distribution. The following synopsis of the form of 
report prescribed for National banks illustrates in a 
general way the information required by National and 
State authorities. 

RESOURCES 

1. (a) Loans and discounts, including rediscounts (ex- 
cept those shown in b and c) ; (b) Acceptances of other banks 
discounted ; (c) Customers' Liability account of acceptances of 
this bank purchased or discounted by it. Deduct (contingent 
liabilities) ; (d) Notes and bills rediscounted with Federal Re- 
serve Bank, other than bank acceptances sold ; (e) Notes and 
bills rediscounted other than with Federal Reserve Bank, not 
including bank acceptances sold; (f) Acceptances of other 
banks sold with indorsement of this bank ; (g) Foreign bills of 
exchange or drafts sold with indorsement of this bank, not in- 
cluded in Item d, above. 

2. Overdrafts, secured and unsecured. 

3. (a) Customers' liability account of "acceptances" 
executed by this bank, and by other banks for account of this 
bank, and now outstanding ; (b) Liability of foreign banks and 
bankers for drafts and bills accepted by this bank to create dol- 
lar exchange and now outstanding. 

4. U. S. Government securities owned: (a) Deposited to 
secure circulation (U. S. bonds par value) ; (b) All other U. S. 
Government securities. 

5. Other bonds, stocks, securities, etc. 

6. Banking house and furniture and fixtures. 

7. Real estate owned other than banking house. 



128 STANDARD BANKING 

8. Lawful reserve with Federal Reserve Bank. 

9. Items with Federal Reserve Bank in process of col- 
lection. 

10. Cash in vault and amount due from National banks. 

11. Amount due from State banks, bankers, and trust 
companies in the United States. 

12. Exchanges for clearing house. 

13. Checks on other banks in the same city or town as 
reporting bank (other than Item 12). 

14. Checks on banks located outside of city or town of 
reporting bank, and other cash items. 

15. Redemption fund with U. S. Treasurer and due from 
U. S. Treasurer. 

16. Other assets, if any. 

LIABILITIES 

17. Capital stock paid in. 

18. Surplus fund. 

19. Undivided profits: (a) Reserved for interest and 
taxes accrued ; (b) Reserved for other purposes ; (c) Less cur- 
rent expenses, interest, and taxes paid. 

20. Circulating notes outstanding. 

21. Amount due to Federal Reserve Bank (deferred 
credits) . 

22. Amount due to National banks. 

23. Amount due to State banks, bankers, and trust com- 
panies in the United States and foreign countries (other than 
included in Items 21 or 22). 

24. Certified checks outstanding. 

25. Cashier's checks on own bank outstanding. 

DEMAND DEPOSITS SUBJECT TO RESERVE (26 to 31) 

26. Individual deposits subject to check. 

27. Certificates of deposit due in less than 30 days (other 
than for money borrowed). 

28. State, county, or other municipal deposits secured by 
pledge of assets of this bank. 

29. Deposits requiring notice, but less than 30 days. 

30. Dividends unpaid. 

31. Other demand deposits. 

TIME DEPOSITS SUBJECT TO RESERVE (32 to 35) 

32. Certificates of deposit (other than for money bor- 
rowed) . 



STANDARD BANKING 129 

33. State, county, or other municipal deposits secured by 
pledge of assets of this bank. 

34. Other time deposits. 

35. Postal savings deposits, 

36. United States deposits (other than Postal savings), 
including war loan deposit account and deposits of United 
States disbursing officers. 

37. U. S. Government securities borrowed. 

38. Bonds and securities other than United States bor- 
rowed. 

39. Bills payable, other than with Federal Reserve Bank. 

40. Bills payable with Federal Reserve Bank. 

41. Letters of credit and travelers' checks sold for cash 
and outstanding. 

42. (a) "Acceptances," executed by this bank for cus- 
tomers and to furnish dollar exchange; less (b) acceptances 
of this bank purchased or discounted. 

43. Acceptances executed by other banks for account of 
this bank. 

44. Liabilities other than those above stated. 

ANALYSIS OF RESOURCES 
LOANS AND DISCOUNTS (Item 1).— This 
item in bank statements represents the amount the 
bank has loaned to its customers and in the open mar- 
ket through the purchase of commercial paper. Loans 
to clients are either on their own unsecured notes 
which are discounted, or are secured by collateral, the 
former designated as "discounts" and the latter 
usually classified as "loans." In a small country bank 
the loans might be handled by the combination receiv- 
ing and paying teller, who would enter them in his 
blotter and hand the new notes and the tickets repre- 
senting payments to the general bookkeeper to be 
itemized in the general ledger. 

OVERDRAFTS (secured and unsecured) (Item 
2). — As a rule no overdraft account is carried in the 



130 STANDARD BANKING 

general ledger but the amount is reported by the in- 
dividual bookkeepers. The general ledger account 
"individual deposits" represents net deposits (individ- 
ual balances less overdrafts), and as the daily state- 
ment must show total liability to depositors, the over- 
drafts must be shown on the resource side of the state- 
ment and the general ledger total of individual de- 
posits increased by the same amount. Overdrafts are, 
of course, temporary advances, usually without se- 
curity and are discouraged by governmental authori- 
ties. They are frequently caused, however, by discrep- 
ancies between the accounts of customers and banks 
or by remittances delayed in the mail, and banks may 
occasionally permit them in moderate amounts, charg- 
ing interest for the use of the money, rather than in- 
jure the customer's credit by "turning down" his 
check. 

CUSTOMERS' LIABILITY (account of ac- 
ceptances and letters of credit) (Item 3). — The 
amount of these guaranties is contra to the bank's 
liability on the acceptances and letters of credit (Items 
42 and 43). Bills drawn by foreign banks to create 
dollar exchange may also be accepted and these 
amounts are included in the total of this item. 

INVESTMENTS (Items 4 and 5).— United 
States Government securities owned are divided into 
various classifications. Bonds to secure circulation 
and those used to secure Government deposits are de- 
posited with the Treasurer of the United States. 
Premium on bonds represents the amount paid in ex- 
cess of the par value and from time to time this amount 



STANDARD BANKING 131 

may be charged off out of earnings. Bank examiners 
are careful to see that securities are carried on the 
books as close to their marketable value as is possible. 
Under Section 11-K of the Federal Reserve Act, Na- 
tional banks which act in fiduciary capacities are 
obliged to comply with the State laws, some of which 
require deposit of securities for the protection of 
such trusts. This section also provides that trust 
funds shall not be used in the bank's business until 
United States or other approved bonds have been de- 
posited with the trust department. Under the present 
provisions of the Federal Reserve Act National banks 
may invest in the stock of certain kinds of interna- 
tional financial corporations up to 10 per cent of their 
capital and surplus. The investment by member 
banks in the capital stock of the Federal Reserve Bank 
is compulsory. An approved form of a stock and bond 
record is shown in figure 1. 

BANK BUILDING AND REAL ESTATE 
OWNED (Items 6 and 7). — Imposing or distinctive 
quarters are sometimes an advantage to the bank 
from an advertising standpoint, but the amount in- 
vested in bank building and fixtures should not be 
excessive. A National bank may not hold real estate 
except for its own use, unless taken to secure loans 
already made to protect itself against loss, and then 
it must sell such real estate within five years or obtain 
an extension from the proper governmental authority. 
A National bank may, subject to certain restrictions, 
and if not in a central reserve city, also loan on bond 
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134 STANDARD BANKING 

lands. An approved form of a bond and mortgage 
record, used in many progressive banks, is shown in 
figure 2. 

ACCOUNTS WITH FEDERAL RESERVE 
BANK (Items 8 and 9).— Member banks are obliged 
to maintain their legal reserve with the Federal Re- 
serve Bank without interest. Checks and other items 
deposited with the Federal Reserve Bank for collec- 
tion cannot be used as reserve until the proceeds are 
available to the Federal Reserve Bank in accordance 
with a time collection schedule, and Item 12 is a 
transit account representing items in process of col- 
lection. 

CASH (Items 10 to 14).— This is the bank's cash 
reserve as distinguished from its legal reserve and in- 
cludes not only the actual cash carried in the bank's 
vault, but it also includes balances with other banks, 
and checks and other cash items for collection by 
hand, through the clearing house and correspondent 
banks. 

FIVE PER CENT REDEMPTION FUND 
(Item 15). — Each National bank having circulating 
notes is required to deposit with the Treasurer of the 
United States five per cent of its authorized circulation 
in lawful money for the redemption of its notes. Na- 
tional bank notes presented for redemption are 
charged against this fund and the bank notified, and 
since the law requires; that it must always be main- 
tained at five per cent of the circulation, the bank 
must immediately replenish it by depositing lawful 
money. 



STANDARD BANKING 135 

ANALYSIS OF LIABILITIES 
CAPITAL ACCOUNTS (Items 17 to 19).— 
Subscriptions to capital stock must be paid in cash 
and are held as a liability to stockholders to offset at 
the opening of the bank the corresponding debit to 
cash on the resource side of the statement. Surplus 
and profits are accumulated from the earnings, but a 
portion of the surplus fund is frequently paid in with 
the capital, the stock being sold at a premium. Thus 
each stockholder may pay at the time of organization, 
$125 per share of a par value of $100; the par value is 
represented on the books as "capital" and the extra 
$25 per share is credited to "surplus." Current ex- 
penses, taxes paid, interest paid, etc., carried on the 
general ledger as "resources," are deducted from the 
accumulated earnings (interest received, etc.) which 
have not been transferred to "surplus" and the net 
amount shown as "undivided profits." A bank usually 
adopts certain periods to perform this operation — 
usually March 31, June 30, September 30 and Decem- 
ber 31. Between these periods the accounts of "ex- 
pense," etc., are carried as assets, and "interest re- 
ceived," "discount received," etc., as liabilities merely 
to show the analysis of the bank's earnings and 
charges for the period. 

NOMINAL ACCOUNTS (Items 19A to 19C).— 
The amount of taxes, interest, and salaries to be paid 
out at any given future date can usually be estimated 
with a fair degree of accuracy, and for the guidance of 
the management a reserve for the purpose may be 
set aside from the earnings each month. If the bank 



136 STANDARD BANKING 

has any doubtful assets it usually sets up a reserve 
for them out of profits, as well as any necessary re- 
serve for bond depreciation. "Unearned discount" 
is the amount of interest deducted by the bank at the 
time an advance is made and is based on the number of 
days the note has to run and the rate at which the dis- 
count is taken. Such discount is deducted before it is 
earned, and any bank crediting such amount to "in- 
terest earned" would not be showing a true statement 
of condition. For this reason the discount is credited 
to the "unearned discount" account and transferred 
from this account to "interest earned" as it is actually 
earned over the period. In order to do this properly 
a record of the amounts of the notes at various rates 
must be kept. Each day, on the basis of this record, 
the auditor figures one day's interest or earnings and 
transfers this amount from the "unearned" to the 
"earned" interest account. 

CIRCULATION (Item 20).— A National bank 
is permitted to issue, up to the amount of its paid-in 
capital, circulating notes secured by, and not exceed- 
ing the par value of United States bonds deposited 
with the Treasurer of the United States (Item 4). 
Circulation may be secured only by registered bonds 
of the following issues : 

2% consols, of 1930; 

4% bonds of 1925 ; 

2% Panama Canal bonds. 

National bank notes secured by the 2% bonds are sub- 
ject to a semi-annual tax of ^ % per annum and a 
semi-annual tax oi y 2 % is levied against notes se- 



STANDARD BANKING 137 

cured by bonds bearing a higher rate. In addition to 
this tax the bank must pay for the plates as well as 
the incidental expenses of redemption. It must also 
keep a deposit of 5% of its circulation with the Treas- 
urer, on which no interest is received (Item 15). If 
the bonds are purchased at a premium a sinking fund 
must be set aside periodically in an amount which will 
absorb the premium, as the Government will redeem 
the bonds at maturity at par. Thus the profit to be 
derived is the amount which would be received from 
lending the circulation plus the coupon rate of the 
bonds, minus the expenses and the interest obtainable 
from lending the cost of the bonds. 

DUE TO BANKS (Items 21 to 23).— This item 
includes deposits of other banks, except those for 
which certificates have been issued. The general 
ledger account "due to banks" shows balances less 
bank overdrafts. Hence, to show total deposit liabil- 
ity in the daily statement, the amounts due to banks 
must be increased by the amount of bank overdrafts, 
and the amount of "overdrafts" increased accordingly. 

DEPOSITS (Items 24 to 36).— This item is com- 
posed principally of "individual deposits subject to 
check," but includes also certificates of deposit, time 
deposits and unpaid dividends. Demand deposits are 
those payable within thirty days. Time deposits are 
defined by the Federal Reserve Act as "all deposits 
payable subject to thirty days notice of withdrawal, 
all savings accounts and certificates of deposit which 
are subject to not less than thirty days notice before 
payment, and all postal savings deposits." Individual 



138 STANDARD BANKING 

deposits are carried on the general ledger by alpha- 
betical divisions corresponding to the individual ledg- 
ers, but in making the detailed statement they are 
reclassified. In a condensed statement the individual, 
bank, time, and savings deposits, public funds, certifi- 
cates, unpaid dividends, cashiers' checks, and certi- 
fied checks might all be totaled as "deposits." 

BONDS BORROWED (Items 37 and 38).— 
Banks frequently borrow bonds for specific purposes 
rather than invest their own funds, and in considera- 
tion pay the owner a commission varying from per- 
haps %% to 2% for their use. This practice is re- 
sorted to for the purpose of obtaining United States 
bonds to secure circulation, or bonds acceptable to 
Government or State officials to secure deposits. At 
times it may be profitable to borrow bonds to use as 
collateral in order to obtain a lower interest rate on 
borrowed money. The premium paid the owner for 
their use is dependent on the income the bank can ob- 
tain by lending its own funds in excess of the interest 
the same amount of money will yield invested in the 
desired securities. Bonds thus borrowed are credited 
to "bonds borrowed" on the liability side and debited to 
the proper account (Items 4 and 5) in resources. Col- 
lateral may be furnished to guarantee return of bonds 
to owner or he may take bank's unsecured receipt. 

BILLS PAYABLE AND REDISCOUNTS 
(Items 39, 40 and Id, le).— Banks desiring to increase 
loanable funds to meet the needs of their customers or 
to replenish reserves on short notice may do so by one 
of four methods : 



STANDARD BANKING 139 

(1) By calling demand loans, thus increasing the 
amount of "cash" or "due from banks." 

(2) By selling bonds. An outright sale is with- 
out recourse on the bank; accordingly the proper se- 
curities account is reduced by crediting with the 
amount sold, and "cash" or "due from banks" is in- 
creased by a debit, thus closing the transaction. It 
is possible at times to sell securities under a re-pur- 
chase agreement, by which the selling bank is ob- 
ligated to buy them back, usually at the selling price, 
within a certain time. A sale of this kind represents 
a contingent liability. 

(3) By selling acceptances, or bills receivable or 
by the rediscount of notes. (Items Id and le). One 
of the principal functions of the Federal Reserve Bank 
is to provide a rediscount market at all times and un- 
der practically all conditions. In periods of tight 
money banks are frequently required to borrow to 
meet the legitimate demand for loans from their cus- 
tomers and the rediscount privilege is available to 
members of the Federal Reserve System. Notes, in 
order to be eligible for rediscount, must be identified 
with some part of the production or distribution of 
goods or secured by U. S. Government war obliga- 
tions, and must not have a maturity exceeding 90 days, 
except livestock paper, which may run for six months. 
If the notes are transferred by indorsement carrying 
full recourse, the bank assumes liability for their pay- 
ment (see Item Id). Non-member banks look to their 
city correspondents for accommodations of this char- 
acter. Bills rediscounted remain on the books as as- 



140 STANDARD BANKING 

sets but a liability is set up on the general ledger as 
"notes and bills rediscounted" to which the proceeds 
of the transaction are credited, offsetting the debit to 
"lawful reserve with the Federal Reserve Bank" or 
"due from banks." The "interest paid" account is 
debited with the discount (on the rediscount) or it 
may be carried as a "discount paid in advance" asset, 
and a "discount paid" account charged each day with 
the amount actually owing the lending bank for that 
day's discount. Bills thus rediscounted may be col- 
lected by the lending bank or may be charged and 
returned to the borrowing bank for collection several 
days before maturity. 

(4) By the issue of its own bills payable (Items 
39 and 40) usually secured by collateral with sufficient 
margin or sometimes guaranteed by individual direc- 
tors. Borrowings either by rediscounts or bills pay- 
able should be authorized by the board and accom- 
panied by a certified copy of the resolution. The 
method by which a bank borrows is governed by con- 
ditions. The nature of its assets may be such that it 
would be in a position to offer prime collateral such as 
United States bonds, and thereby obtain a lower rate 
than would apply to rediscounts. This method gives 
the lending bank marketable collateral with a suffi- 
cient margin for safety in addition to the obligation 
of the bank. In the case of rediscounts there is no 
margin, the value being represented by the obligation 
of the maker, supported by the indorsement of the bor- 
rowing bank. Some banks borrow on certificates of de- 
posit issued for a specified time bearing interest at the 



STANDARD BANKING 141 

current loaning rate. Unless certificates of this kind 
are segregated from those representing bona fide de- 
posits the statement will be misleading. The Federal 
Reserve Act allows 15-day advances secured by Gov- 
ernment war obligations or eligible paper. 

CONTINGENT LIABILITIES (Items If and 
lg). — A contingent liability is one which is likely, but 
not certain to become a direct liability. A bank often 
buys foreign bills or domestic bills, ^and in either case, 
if it wishes for some reason to dispose of them, it may 
sell them outright — with indorsement — to some note 
broker. Such indorsements constitute a contingent 
liability. Sometimes a bank buys a bill only tech- 
nically, simply supplying its indorsement and then 
making a technical sale, receiving a commission for 
indorsing the bill. This is done very often to provide 
a necessary member bank indorsement to an other- 
wise non-eligible acceptance — the non-eligibility be- 
ing based, not on the underlying transaction but be- 
cause the acceptor is a nen-member or a foreign 
banker. 

General Ledger 

SUMMARY AND CORRELATION.— The pur- 
pose of the "general ledger" is to summarize and cor- 
relate the various accounting operations of the bank. 
It provides an account of what the bank owns, repre- 
sented by assets or resources, and what it owes, as 
shown by liabilities, but deals with these amounts in 
aggregates rather than in detail. In addition to the 
accounts with depositors and borrowers, it includes 
capital accounts (or those with stockholders) and 



142 STANDARD BANKING 

nominal accounts such as earnings, expenses, and re- 
serves for taxes and interest. In a small bank it can 
be conceived that a single set of books — a journal, a 
ledger and a balance book — -would serve for all ac- 
counts. As the bank grows it becomes necessary to 
open a separate set of books for individual accounts, 
removing them from the general books and carrying 
them in individual ledgers. A single account repre- 
senting deposits is substituted in the general ledger, 
in which the only entries are total deposits and total 
checks for the day as shown by the footings of the 
individual journal. Similarly, when a discount de- 
partment is created, loans made and loans paid are 
itemized on the books of that department, and the 
totals carried forward to the general books. The ac- 
counts with the stockholders representing capital 
stock are itemized in the stock ledger and certificate 
book; nominal accounts are itemized in ledgers for 
the purpose; cashier's checks and certificates of de- 
posit are entered as issued in the respective registers, 
and these accounts on the general ledger show only 
the total amounts outstanding. Thus all of the books 
of the bank are parts of the general books, each trans- 
action being entered in detail in the records of the 
various departments. Only the totals are carried on 
the general ledger, which is posted at the end of the 
day from the figures resulting from departmental 
proofs, and the balances extended. Before entries are 
made in the general ledger, however, they must be 
journalized to provide a proof of the entire work of 
the bank for the day. The debits and credits to the 



STANDARD BANKING 143 

various departments are entered from the figures sup- 
plied the general bookkeeper after the departmental 
proofs have been completed. For example, total de- 
posits as shown by the receiving teller's proof, total 
payments taken from the paying teller's proof, total 
loans made and loans paid, and discount collected by 
the discount department, drafts issued against ac- 
counts with correspondents, expenses paid, safe de- 
posit rent collected, are all reported in total amounts 
for the day and journalized. The difference between 
the total debits and the total credits for the day equals 
the amount of cash on hand as shown by the paying 
teller's proof. After the journal is balanced the 
various debits and credits are posted to the proper 
accounts on the general ledger and the balance of each 
is carried forward. A small bank sometimes finds it 
more convenient to use a combined general journal 
and ledger, but this necessitates a voluminous book 
providing space in each account for the various items. 
In a system of this kind one double page of the ledger 
is devoted to each day's business, the debit page show- 
ing the bank's resources and the credit page the bank's 
liabilities. At the extreme left-hand side of each page 
is a column showing the balance of each account car- 
ried forward from the preceding day, a debit and a 
credit column on each page provide space for the day's 
total transactions in each account, and the difference 
is added to or deducted from the old balance to give 
the balance at the close of business for that day. The 
footings of these balance columns are the bank's total 
resources and liabilities respectively. When an or- 



144 STANDARD BANKING 

dinary loose leaf or Boston ledger form is used for the 
general ledger the new balances are combined as far 
as is possible and transcribed on a proof or perhaps on 
the daily statement itself and a proof is taken. 

Bank Tellers 

SMALL AND LARGE INSTITUTIONS.— 

The business of banking is concerned primarily with 
deposits and the increment therefrom, so accounting 
methods must be designed for handling efficiently all 
the work in connection with the receipt of deposits, 
and the subsequent withdrawal, and keeping these 
records in such a manner that the management may 
administer the business to conform with the law and 
sound banking principles, protecting and conserving 
the interests of depositors and of the owners of the in- 
stitution—the stockholders. A study of bank account- 
ing, therefore, must take into consideration, not only 
the actual bookkeeping, but the handling of deposits, 
checks, reserves, making of loans, and making reports 
and examinations, as well as the correlation of all the 
work of the bank in the general ledger, finally sum- 
marizing the bank's position in the statement of condi- 
tion. The small country bank unit requires only a tel- 
ler, a bookkeeper and a cashier. The latter may give 
part of his time to the work of both the teller and the 
bookkeeper, although the position of cashier does not 
theoretically include such work, and all bank account- 
ing may be roughly grouped into these two general 
divisions no matter how large may be the institution. 
With only one teller all receiving and paying opera- 



STANDARD BANKING 145 

tions pass through his hands. As the bank grows and 
additional tellers are provided, a division of the work is 
made in such a manner as to secure economy for the 
bank and convenience for the customers. One teller 
pays checks, another receives deposits, another sells 
exchange and issues certificates of deposit, another 
makes loans on instructions of an officer and receives 
payment of interest and principal. All these tellers 
handle cash and checks, accounting to the head teller 
at the close of business for all the transactions of the 
day. All of the tellers are merely assistants to the 
head teller, and no matter how many divisions of the 
tellers there may be, the bank has only one cash ac- 
count, for which the head teller is responsible. 

BANK DEPOSITS.— Any bank's value to the 
community as well as its earning power would be 
greatly restricted without deposits. Although the 
capital stock is available for making loans, the profit 
from this source alone would not justify the invest- 
ment, and since one of the principal benefits to the 
community is the ability to lend money for legitimate 
business purposes, the capital which is paid in at or- 
ganization must be augmented by other funds if the 
bank is to be a factor. When an account is opened 
the depositor's signature is taken, usually, for conve- 
nience, on a card. If the account is in the name of a 
firm or corporation the card will bear the signatures 
of all persons authorized to draw checks. A copy of 
the resolution authorizing certain officers to open the 
account and to sign checks drawn against such ac- 
count is also kept on file in the bank. There should 



146 STANDARD BANKING 

be a clear understanding of the terms of the account, 
that is, the rate of interest to be paid, if any, and the 
line of credit established for the use of the customer. 
The rate of interest paid on deposits varies. Some 
commercial banks pay no interest on checking ac- 
counts, while others, especially where there is severe 
competition, are obliged to pay two, three, and some- 
times four per cent to attract business. Time deposits 
— left for a specified period or requiring notice of with- 
drawal — bear a higher rate than those payable on de- 
mand. In order to avoid the payment of interest on 
checking accounts, some banks issue certificates of 
deposit for all such interest-bearing accounts. A 
pass-book is issued to the depositor at the time the 
account is opened, if it be a checking account. This is 
the customer's receipt and is brought to the bank with 
each subsequent deposit so the customer has in per- 
manent and convenient form a record of the bank's 
indebtedness to him. 

Receiving Tellers 

DUTIES AND RESPONSIBILITIES.— The 

receiving teller's department is the hopper into which 
is poured the deposits to be converted into credit on 
the bank's books. It is the duty of the receiving teller 
to receive, receipt for and prove the deposits, starting 
them and their component parts through the various 
processes by which the proceeds are made available to 
the depositor in the form of credit on the bank's books. 
The credits are entered in the pass-book and initialed 
by the teller from the ticket which accompanies each 



STANDARD BANKING 147 

deposit, and from which the amount is posted to the 
depositor's account on the ledgers. The deposit ticket 
should always be made out by the depositor to save 
the time of the teller and to avoid disputes. Should 
the customer discover later that an error has been 
made the original ticket may be referred to and if it 
is in his own handwriting there can be no mistake as 
to the responsibility. After posting, deposit tickets 
are filed for future reference. 

DEPOSIT TICKETS.— The deposit ticket pro- 
vides space for listing currency, specie, and checks. 
Only the totals of the first two items are entered, but 
each check is listed separately, and it is good prac- 
tice to indicate opposite each check the bank on which 
it is drawn. This may be done quickly by using the 
A. B. A. Numerical System number, which is printed 
on the check and which represents the drawee bank, 
as every bank in the United States has a different 
number. Checks are received and credited by the 
bank subject to final collection, and many banks have 
printed in a prominent place in the pass-book, and 
frequently on the deposit ticket, a non-liability clause 
to this effect. Sometimes a collection item (sight or 
time draft, note or coupon) is included in the total, 
and if in the judgment of the teller there is a possibil- 
ity that the proceeds will not be made available to 
the bank immediately, or if the customer has not ar- 
ranged with the bank for immediate credit, it is de- 
ducted and "short extended" — entered on the same 
line in the book or sometimes in the back. Should a de- 
posit be made without the pass-book the customer 



148 STANDARD BANKING 

is given a duplicate deposit ticket, which is retained 
as a temporary receipt until the amount is entered 
in the book. Entries from duplicate tickets should 
be made only by the receiving teller, or after consult- 
ing the ledger. 

COUNTING AND CHECKING.— In receiving 
deposits the teller counts the currency and specie, 
checking them as the count is proved. By making 
this a practice there is little possibility that a package 
of currency or a roll of coins will remain in the pocket 
of the person bringing the deposit to the bank, either 
through thoughtlessness or otherwise. The money 
is scrutinized rapidly but carefully for counterfeits or 
mutilated coins. The amount in words and figures 
on the checks is compared and the teller guards 
against taking any post-dated or stale checks, or any 
showing signs of alterations. When the checks are 
not plainly written he avoids future errors by marking 
the proper amount in figures. He satisfies himself 
that all checks bear the indorsement of the depositor, 
and unless the bank is so large that the volume of 
work will not permit, he examines the checks on his 
own bank for forgeries, and in the case of doubtful 
accounts he assures himself that the balance is suffi- 
cient to cover the check. Checks on out-of-town 
banks subject to an exchange charge are noted and the 
amount of exchange is collected from the customer. 
If the amount of these exchange charges is large it 
is entered in the back of the pass-book or is per- 
haps computed by the transit department, and col- 
lected monthly. Where the volume of deposits is 



STANDARD BANKING 149 

large it is of course physically impossible for the tell- 
ers to handle all of these details, and much of this 
work is left to an assistant, the teller's time being re- 
quired to count the currency and specie, and enter the 
deposit in the pass-book. Where this is so, no attempt 
is made to prove the addition of the ticket nor to ex- 
amine the checks except for indorsements, until the 
block system handles the deposit, after which the 
checks, etc., should be scrutinized. The money is 
placed in the till and a slip of paper representing the 
cash is placed with the ticket and checks, the whole 
transaction being proved later by the block system. 

BATCH OR BLOCK SYSTEM.— In that part 
of accounting which is done by the receiving teller 
three objects are kept in view: (1) to prove the de- 
posit ticket; (2) to subdivide the checks into conve- 
nient groups for final settlement by other departments 
of the bank; (3) in accomplishing the first two results, 
to handle the checks as few times as possible. This 
is best accomplished by the "batch" or "block" system, 
which proves the teller's work in sections during the 
day. By this method errors may be located and cor- 
rected promptly, and the items put through the work 
as early in the day as practicable, thus feeding the 
other departments and relieving the teller of the work 
of proving the entire business of the day after the 
window is closed — a slow and difficult process. Thus 
deposits are proved in groups depending on the num- 
ber of checks in them and the items are sorted into 
their proper channels and a control is established 
against which the bookkeeping, transit, and other de- 



150 STANDARD BANKING 

partments receiving items from the teller, can prove 
their work. 

SORTING CHECKS.— The widest division is 
made of those checks deposited in the greatest num- 
ber. In some banks the transit items are sorted into 
classifications on a geographical basis, or perhaps 
those collected through the Federal Reserve Bank, 
those collected through correspondents, and those col- 
lected in other ways. In others the exchanges or 
checks collected through the clearing house are di- 
vided into sections; while "self-checks," or those 
drawn on the bank in which they are deposited, may be 
sorted into groups corresponding to the ledger subdi- 
visions. Miscellaneous collection items such as 
— "sights" (items which will be paid on presentation, 
documentary sight drafts, coupons, etc.), are sorted to 
the collection department to be presented by hand. 
General items, such as certificates of deposit, cashiers' 
checks, certified checks and those which are entered 
directly in the general ledger, are sorted together and 
charged to the general bookkeeper. In small banks 
where the loans and discounts are handled by the re- 
ceiving teller instead of by a note teller or the loan and 
discount departments they are sorted together and 
charged to the general bookkeeper as "loans and dis- 
counts" or "bills receivable." The interest collected on 
these items is credited to the general bookkeeper as 
"interest and discount." Each group or classification 
of the items are machine listed and recapitulated on 
the block sheet. The deposit tickets are listed and the 
total of all the credits included in the block should 



STANDARD BANKING 151 

prove with the total of the debits, including the cash 
slips. If the totals do not agree it is evident that an 
error has been made and it is necessary to locate it 
before the block can be passed on to the departments. 
The listing is checked for errors and if none is dis- 
covered the deposit tickets are "footed" for errors in 
the addition. Should the error not be found here it 
is necessary to check the individual debit items against 
the entries as shown on the tickets — a laborious task. 
When the block is proved the various packages are 
sent to the proper departments and the teller retains 
the recapitulation to be used in making up his final 
proof for the day. A specimen teller's proof is shown 
in figure 3. 

SETTLEMENT SHEET.— When the window 
is closed for the day the last block is run and the final 
proof is taken on a settlement sheet. This may be in 
bound book or loose-leaf form with a debit and credit 
column, provision being made for all the various 
classifications of items. The receiving teller turns his 
cash over to the paying teller after he has "balanced" 
or before the bank opens for business the following 
morning. In either event the cash is charged to the 
paying teller, as he is theoretically responsible for all 
the bank's cash whether it be kept in his own vault 
compartment or that of the receiving teller. 

BANKING BY MAIL.— The volume of deposits 
received by mail is large and even in small country 
banks the practice of "banking by mail" is growing. 
These "cash letters" and other letters enclosing col- 
lections may be handled by a mail teller in large in- 



152 



STANDARD BANKING 






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STANDARD BANKING 153 

stitutions and in some city banks it is necessary to 
employ a night force to prepare the mail items for the 
regular working staff. In cities where the exchanges 
are made at the clearing house in the morning it would 
be a physical impossibility to sort and prove the mail 
in time for clearing unless the work were begun long 
before the regular force arrived. Where the bank's 
business is not so heavy as to require night work the 
mail is sent to the receiving teller's department and 
before the bank opens for business the tellers and as- 
sistants and as many additional clerks as are necessary 
are busily engaged sorting and proving these letters 
so that the work may be distributed to the various 
departments without delay. The collections are en- 
tered in a blotter and the mail deposits are classified 
into convenient groups such as transit items, self 
checks, clearing house, and miscellaneous, with as 
many subdivisions as desired. Credit tickets are pre- 
pared or the letters themselves may be used as credits 
in posting to statements. This work is proved by 
recapitulating the various sections of the debits 
against the total of the letters as outlined above, the 
credits being sent to the bookkeepers and the checks 
charged to the proper departments. 

Paying Tellers 

CONVENIENCE TO DEPOSITORS.— When 

the bank receives money on deposit it does not agree, 
except in the case of special deposits, to return the 
funds in the same form received, but only to return 
the same amount. The bulk of the deposits in com- 



154 STANDARD BANKING 

mercial banks is subject to check and competition has 
caused banks to solicit active checking accounts on 
the basis of convenience to the depositor. In modern 
commercial banking the checking function is comple- 
mentary to the deposit function and it is the duty of 
the paying teller to cash checks presented for payment 
over the counter. This is obviously a very responsible 
position, as checks are usually presented by persons 
who are not clients of the bank, and money paid in 
error frequently cannot be recovered. The fact that 
money is given in exchange for the check makes it 
practically impossible for the teller to prove an error 
in paying, or even to locate the discrepancy in proving 
his work at the end of the day. The bank will not 
cash checks for strangers, and unless known to the 
teller personally it is necessary to be identified. When 
the holder of the check is introduced by one known 
to the bank, the latter adds his indorsement, thus 
guaranteeing payment. Many people attempt to 
identify themselves to the bank by presenting busi- 
ness cards or letters addressed to them, and when the 
check is drawn on the teller's own bank and he is 
satisfied that it is in proper order he may be willing to 
pay the check on such identification, though not en- 
tirely satisfactory. If drawn on another bank, how- 
ever, he has no means of knowing whether or not it 
will be paid, and he must require the indorsement of 
some person known to be good for the amount in- 
volved. 

RESPONSIBILITIES IN PAYING.— Checks 
payable to "cash" or "bearer" do not legally require 



STANDARD BANKING 155 

indorsement, but it is the custom of most banks to 
obtain the holder's indorsement to provide a receipt. 
A bank is under no obligation to cash checks drawn on 
another institution, but as a business courtesy per- 
forms this service when the risk is not too great. 
When a check is presented for payment the teller must 
be satisfied (1) that it is genuine and that the signa- 
ture is authorized (when check is drawn on another 
bank this is impossible, and thus it is a matter of 
greater risk for the paying teller to cash such checks), 
(2) that the amount has not been altered — "raised" — 
and that the words and figures agree, (3) that it is not 
"post-dated" — dated ahead of the day on which it is 
presented — or "stale" — a check presented an unrea- 
sonable time after its date, (4) that payment has not 
been stopped or a court attachment has not been 
placed against the account, (5) that the drawer's bal- 
ance is sufficient to cover the check, (6) that the per- 
son presenting it is known to him, (7) that the last 
indorsement is that of the holder, and (8) that the 
attached voucher, if any, is signed. When it is con- 
sidered that the teller must pass on all these requisites 
within a few seconds, something of his responsibili- 
ties can be realized. He is also called on to pay bank 
drafts, postal and express money orders, travellers' 
checks, coupons and other instruments. In addition 
to those checks which are received for deposit by 
the receiving teller, and those which are paid over 
the window by the paying teller, the bank also pays 
a large volume of checks on itself through the clear- 
ing house. It is, of course, necessary to take the same 



156 STANDARD BANKING 

precaution in paying the exchanges, as the last group 
is called, as those paid over the window, and before 
they are sent to the bookkeepers to be charged to the 
drawers' accounts they must be examined by the 
paying teller, an assistant, or by a special signature 
department, to see that they are in proper order. 

CLEARING HOUSE SETTLEMENTS.— The 
settlement of the clearing house balance is one of the 
teller's duties and this balance is paid in cash or by 
draft on the clearing house or one of the bank's corre- 
spondents. In those cities where a Federal Reserve 
Bank or branch is located, however, it is now possible 
to settle the balance by means of transfers through 
the Federal Reserve Bank. The clearing house sends 
to the Federal Reserve Bank a memorandum showing 
the balance due from the debtor banks and those due 
to the creditor banks, and these amounts are charged 
or credited, as the case may be, to the accounts of the 
clearing banks. In the case of a member bank which 
has paid through the clearing house a larger amount 
of its own checks than those on other banks which it 
has sent to the clearing house for payment, it has a 
debit balance to be settled, and the teller credits the 
amount to "lawful reserve with Federal Reserve 
Bank" on the general ledger. When the amount of 
checks sent to the clearing house is larger than the 
amount of his bank's checks received in the exchanges, 
the teller has a credit balance and debits the Federal 
Reserve Bank on his ledger to correspond with the 
credit to his account on the books of the Federal Re- 
serve Bank. Thus the annoyance and risk of paying 



STANDARD BANKING 157 

these large clearing house balances in cash and trans- 
porting the money through the streets is eliminated. 

CHECKS PRESENTED AT THE WINDOW. 
— The checks presented at the window and paid by 
the teller are of two kinds, those on his own bank and 
those on other banks, and he disposes of them by rout- 
ing to the other departments of the bank to be col- 
lected or charged to the drawers' accounts. Checks 
on other banks in the same city, which can be collected 
through the clearing house, are sorted and prepared 
for clearing by the "rack" department, but as these 
cannot be exchanged until the following day it is the 
practice of some banks to send them to the city col- 
lection department or receiving teller, to be held over- 
night and sent to the clearing house "rack" early the 
next morning. Those on other banks in the same city, 
which are not payable through the clearing house, 
must be collected by hand, and they, too, are sent to 
the city collection department. Cash items on out- 
of-town banks are sent to the transit department 
where they are made up into "cash letters" and for- 
warded to the bank's correspondents for credit or re- 
mittance. In some banks all transit and miscellaneous 
items are sent through the receiving teller or collec- 
tion department to be distributed to the proper de- 
partments, as relatively few of these are handled by 
the paying teller. General items such as certificates 
of deposit, certified checks and cashier's checks are 
sent to the general bookkeeper. The checks drawn 
by the bank's depositors against their accounts are, 
of course, charged to the bookkeepers to be posted to 



158 



STANDARD BANKING 



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STANDARD BANKING 159 

the individual ledgers, and in order to simplify the 
work of proving for both the teller and bookkeeper, 
they are sorted into ledger subdivisions, such as A to 
E, F to K, etc. Before allowing them to pass from 
his hands, however, the teller lists the items, charging 
the totals to the various departments on his settlement 
sheet. At the close of business the day's work is 
proved by "balancing" the cash. Inasmuch as the 
paying teller pays out cash practically all his items 
are debits. The amount of checks cashed and sent to 
the clearing house, bookkeepers, and other depart- 
ments, plus the cash on hand at the close of business, 
should equal the amount of cash with which he began 
the day, plus the amount received from other tellers 
and the exchanges from the clearing house. The fore- 
going items are embodied in the paying teller's proof, 
a specimen of which is shown in figure 4. 

COUNTER AND RESERVE CASH.— Theo- 
retically the paying teller is the custodian of the bank's 
cash, but in practically all banks the cash reserve is 
separated from the counter cash and kept in separate 
compartments of the vault which are usually under the 
care of the cashier or other officer. Thus the responsi- 
bility is divided as an additional safeguard. The 
larger banks having assistant tellers frequently divide 
the total cash into three parts — the reserve, which is 
seldom disturbed, the paying teller's cash for ordinary 
requirements, and the counter cash which is taken into 
the assistant tellers' cages during the day and from 
which checks are paid. The vault compartments may 
have two combinations or a combination and key lock, 



162 STANDARD BANKING 

charging the account of the drawer, segregating the 
amount in a "certified checks" account on the gen- 
eral ledger. Certification renders the bank primarily 
liable for payment to a bona fide holder and while it 
does not extend to indorsements, nor guarantee the 
genuineness of the body of the check, it does guar- 
antee the drawer's signature. If the drawer has the 
check certified before delivery to the payee the drawer 
is not discharged, while if it is certified on presenta- 
tion by the holder or payee that fact discharges the 
drawer. When the certified check is presented for 
payment it is charged to the general ledger account 
and returned to the drawer. The practice arises from 
a desire on the part of the public to have the check 
verified both as to genuineness of signature and 
amount, and such checks are used extensively in stock 
exchange transactions and in connection with sealed 
bids to guarantee performance of the contract. The 
large volume of stock exchange transactions in New 
York has led to the practice of over-certification, al- 
though it is a misdemeanor under the National Bank 
Act to certify a check unless the drawer has a credit 
balance sufficient to cover it at the time of certifica- 
tion. While many banks will not under any circum- 
stances certify a check without a sufficient balance, 
others, having among their clients stock exchange 
brokers whose business requires the certification of 
large amounts daily, arrange to extend a temporary 
credit pending the deposit of funds, usually securing 
themselves by holding collateral. The broker will be 
required to make many deposits during the day, thus 



STANDARD BANKING 163 

reducing the risk, and at the end of the day when his 
last deposit is made the bank has been placed in funds 
to cover all checks which it has certified. In addition 
to checks, notes may also be presented for certification 
on the day of maturity to be collected through the 
exchanges the following day and returned to the 
maker. 

SIGNATURES OF DEPOSITORS.— The pay- 
ing teller also keeps a record of the authorized signa- 
tures of the bank's depositors. The most convenient 
form is on cards, filed alphabetically, and a duplicate 
set may be kept by the bookkeeping department. In 
the case of corporations, firms and banks the cards 
contain the signatures and titles of all persons author- 
ized to check against the account, and corporation 
signatures are supported by a resolution, properly 
certified. Institutions having many accounts and 
handling thousands of checks daily find it desirable to 
relieve the teller of this responsibility by having a sig- 
nature department where all checks and notes are ex- 
amined carefully before being charged to the accounts. 
This department assumes the duties of keeping resolu- 
tions and cards and handling the details of procuring 
signatures of new officials, authorizations, powers of 
attorney, receiving stop-payment instructions, etc., 
but the teller must in all cases be supplied with a set 
of cards to enable him to avoid forgeries and other 
irregularities. Other duties of the teller include the 
making up of payrolls for the bank's customers as well 
as that of the bank itself, and he may be charged with 
the responsibility of adjusting the bank's legal reserve, 



162 STANDARD BANKING 

charging the account of the drawer, segregating the 
amount in a "certified checks" account on the gen- 
eral ledger. Certification renders the bank primarily 
liable for payment to a bona fide holder and while it 
does not extend to indorsements, nor guarantee the 
genuineness of the body of the check, it does guar- 
antee the drawer's signature. If the drawer has the 
check certified before delivery to the payee the drawer 
is not discharged, while if it is certified on presenta- 
tion by the holder or payee that fact discharges the 
drawer. When the certified check is presented for 
payment it is charged to the general ledger account 
and returned to the drawer. The practice arises from 
a desire on the part of the public to have the check 
verified both as to genuineness of signature and 
amount, and such checks are used extensively in stock 
exchange transactions and in connection with sealed 
bids to guarantee performance of the contract. The 
large volume of stock exchange transactions in New 
York has led to the practice of over-certification, al- 
though it is a misdemeanor under the National Bank 
Act to certify a check unless the drawer has a credit 
balance sufficient to cover it at the time of certifica- 
tion. While many banks will not under any circum- 
stances certify a check without a sufficient balance, 
others, having among their clients stock exchange 
brokers whose business requires the certification of 
large amounts daily, arrange to extend a temporary 
credit pending the deposit of funds, usually securing 
themselves by holding collateral. The broker will be 
required to make many deposits during the day, thus 



STANDARD BANKING 163 

reducing the risk, and at the end of the day when his 
last deposit is made the bank has been placed in funds 
to cover all checks which it has certified. In addition 
to checks, notes may also be presented for certification 
on the day of maturity to be collected through the 
exchanges the following day and returned to the 
maker. 

SIGNATURES OF DEPOSITORS.— The pay- 
ing teller also keeps a record of the authorized signa- 
tures of the bank's depositors. The most convenient 
form is on cards, filed alphabetically, and a duplicate 
set may be kept by the bookkeeping department. In 
the case of corporations, firms and banks the cards 
contain the signatures and titles of all persons author- 
ized to check against the account, and corporation 
signatures are supported by a resolution, properly 
certified. Institutions having many accounts and 
handling thousands of checks daily find it desirable to 
relieve the teller of this responsibility by having a sig- 
nature department where all checks and notes are ex- 
amined carefully before being charged to the accounts. 
This department assumes the duties of keeping resolu- 
tions and cards and handling the details of procuring 
signatures of new officials, authorizations, powers of 
attorney, receiving stop-payment instructions, etc., 
but the teller must in all cases be supplied with a set 
of cards to enable him to avoid forgeries and other 
irregularities. Other duties of the teller include the 
making up of payrolls for the bank's customers as well 
as that of the bank itself, and he may be charged with 
the responsibility of adjusting the bank's legal reserve, 



164 STANDARD BANKING 

maintaining at all times sufficient cash on hand to 
meet the legal requirements, or in case of a member 
bank, making deposits with the Federal Reserve Bank 
to cover deficiencies in the reserve balance, where such 
deposits are made in currency. 

Unit Tellers 

PERSONAL CONTACT WITH CUSTOM- 
ERS. — It is generally recognized that as the bank 
grows in size it becomes more and more difficult to 
maintain that close personal contact with customers 
so essential to banking relations, which characterizes 
the business o£ the small institution. For this reason 
some large banks have adopted the plan of unit tellers, 
that is, having all the tellers receive deposits and pay 
checks. This is accomplished by arranging the tellers' 
cages by alphabetical divisions. Thus one cage will 
handle all the bank's accounts from A to E, another 
from F to K s etc. Under such a plan each teller re- 
ceives deposits for and pays checks against a limited 
group of accounts and he has an opportunity to be- 
come acquainted with them and with the depositors 
themselves, and is not obliged to familiarize himself 
with the signatures of all the bank's customers nor to 
keep constantly in mind all stop-payment orders or 
the condition of all doubtful accounts. 

TELLERS' BLOTTERS.— Each teller keeps a 
column ruled blotter, one side for debits and the other 
for credits. The checks to be charged to each in- 
dividual bookkeeper will be entered in one column on 
the debit side, In another column he will list all debits 



STANDARD BANKING 165 

sent to the general bookkeeper, such as certificates of 
deposit and cashier's checks paid. In another will be 
listed all country cash items sent to the transit de- 
partment, and in another will be entered all exchanges 
for the clearing house. The credit side of the blotter 
is divided in the same manner, deposit tickets for the 
different bookkeepers, drafts, certificates of deposit 
and cashier's checks issued and exchange collected be- 
ing listed in separate columns. At the close of the 
day each teller turns over to the head teller all cash 
and cash items in his hands, and renders to him a 
memorandum of the footings of the various columns 
of his blotter. From these figures the head teller 
makes up a summary of the business of the day in his 
"cash book" showing the total amounts charged to 
each bookkeeper or department, and each must prove 
his work with the head teller's figures. In a bank 
having only one teller it may be desirable to have 
separate columns for the more important divisions of 
the general ledger, especially as many small banks use 
a combined general journal, ledger, and statement, in 
which the items are posted in detail instead of totals, 
and thus both the debit and credit sides will have a 
column for loans and discounts, one for certificates of 
deposit, one for cashier's checks, etc. 

BALANCING CASH.— To balance the cash (in- 
cluding the exchanges and cash items held over), the 
cash of the previous day is added to the total credits 
shown by the summary and the total debits are de- 
ducted. The difference should be the same as the 
actual amount of cash on hand. The same result is 



166 STANDARD BANKING 

obtained by adding the "old cash" to the total credits 
and the "new cash" to the total debits. If the grand 
totals of both debits and credits are the same the tell- 
er's cash is in balance. A memorandum is then sent to 
the general bookkeeper for the daily statement show- 
ing the amount of "checks and other cash items/' "ex- 
changes for the clearing house," and "cash in vault" as 
classified in the form prescribed by National and State 
authorities. 

Individual Ledgers 

RELATIONS WITH DEPOSITORS.— That 
part of bank accounting which has reference to the 
relations with depositors is the work of keeping the 
individual ledgers, including not only the balance 
ledgers themselves, but also rendering an account to 
the customer. The bank numbers among its custom- 
ers firms and corporations and perhaps other banks 
and trust companies, and inasmuch as these accounts 
present the same general problems as those of individ- 
uals, the same accounting principles and practices will 
apply. In any bank the essentials of good bookkeep- 
ing are the same. Perhaps the most important is 
accuracy, with speed, caution and neatness of relative 
value. For the protection of the bank as well as the 
depositor it is important that the bookkeeper exercise 
particular care in posting his checks and credits to the 
proper accounts. He must be on the look-out for 
forgeries and other irregularities, should be ever 
mindful of stop-payment orders, and should have 
overdrafts approved by an official. A wide-awake 



STANDARD BANKING 167 

bookkeeper can be of great assistance to the manage- 
ment by calling attention to changes of consequence 
in his accounts, such as increased or decreased bal- 
ances, large deposits or withdrawals which might have 
some bearing on the conduct of the depositor's busi- 
ness or investments, or any questionable transactions 
such as check "kiting." 

INDIVIDUAL LEDGER FORMS.— The form 
of ledger used is of little consequence so long as it 
meets the bank's requirements. The old fashioned 
cumbersome bound book with a page or half -page for 
each account was supplanted many years ago by loose- 
leaf ledgers. The principal advantage of the loose- 
leaf system lies in the fact that only current accounts 
need be kept in the binder, and its use eliminates the 
necessity of transferring the accounts to a new ledger 
periodically. By this method a full sheet is devoted to 
each account and the sheets themselves are arranged 
in alphabetical order, doing away with the use of an 
index. The Boston ledger is still popular in many 
banks where it is best adapted to existing conditions. 
The form provides six daily columns on each page, 
with horizontal lines down the middle for the names 
of the accounts and a debit, a credit and a balance 
column, for each day. Space is left for new accounts 
which may be opened, and the ledger may be bound 
with sufficient sheets for any number of months. In 
recent years, however, the posting machine has been 
brought to a high state of perfection, and it offers so 
many advantages over the pen posting method that it 
has been adopted by thousands of banks. Its use does 



168 

(Fig. 5) 



STANDARD BANKING 

Boston Form of 



MONDAY 



TUESDAY 



WEDNESDAY 



Date of 
Settlement 



No, 



DEBIT CREDIT 



DEBIT CREDIT 



DEBIT CREDIT 



away with the balancing of pass-books, which is al- 
ways burdensome as most customers leave their pass- 
book to be balanced at the end of the month when 
the bank's daily routine is unusually heavy. Instead 
of balancing the pass-book the machine posting 
method provides the depositor, even in the very small 
bank, with a neatly printed statement of his account 
for the month, and the pass-book is used only as a 
receipt book in making deposits. The statement is 
posted daily so that at the end of the month it is neces- 
sary only to take the cancelled checks from the file 
and return them to the customer, who gives the bank 
a receipt for the returned checks, and at the same time 
acknowledges that the balance as shown by the bank's 
books is correct. If any discrepancies appear the ex- 
ceptions to the bank's figures are noted on a reconcile- 
ment sheet which is returned for adjustment. A 
specimen form of the Boston ledger is shown in figure 
5. 

GROUPS OF ACCOUNTS.— The individual ac- 
counts include those of firms and corporations, and in 
a large bank may be divided into "personal" and "com- 



STANDARD BANKING 
Individual Ledger 



169 

(Fig. 5) 





THURSDAY 


FRIDAY 


SATURDAY 


DEPOSITORS 


DEBIT 


CREDIT 


DEBIT 


CREDIT 


DEBIT 


CREDIT 









































mercial," while the bank accounts are usually grouped 
as "National," "State," and "Trust and Savings," each 
classification divided among as many ledgers as neces- 
sary. Individual accounts are carried alphabetically 
by surname and the bank accounts alphabetically, 
usually by cities. Bookkeepers are assigned to alpha- 
betical divisions with a view to giving each man as 
many accounts as can be efficiently handled, but no 
uniform rule can be followed, as some accounts are 
more active than others. Each bookkeeper is respon- 
sible for his ledgers and in a small bank may be re- 
quired to prepare his items for posting, file checks 
and balance his pass-books, as well as post and prove 
the ledgers. In a larger institution, however, the 
actual bookkeeping usually occupies all of the book- 
keeper's time, and the work of sorting and journaliz- 
ing the material is performed by check clerks or an 
entire department called the "check-desk." When- 
ever possible pass-books are balanced by someone 
other than the bookkeeper to provide a check on the 
bookkeeper's work. 

BALANCING. — Balance bookkeeping includes 



170 STANDARD BANKING 

three distinct operations, (1) sorting and journalizing 
the checks and deposit tickets, etc., (2) posting the 
accounts, and (3) proving the work. It is desirable to 
post the ledger directly from the items. Credits in- 
clude the deposit tickets received over the window, 
cash letters received through the mail, and the mis- 
cellaneous credit tickets received from various depart- 
ments. The debits are principally checks paid over 
window, through the clearing house and those re- 
ceived in the mail deposits, but matured notes are also 
charged direct to the account of the maker if presented 
at maturity, and a miscellany of debits comes from 
other sources in the bank. Care must be taken to post 
the deposits and checks to the proper account, and 
not to one with a similar name, as an error of this 
kind would not affect the proof of the posting and, if 
not found by the statement posting clerks, might re- 
main undiscovered for some time, ultimately causing 
a loss to the bank. 

ACCURACY. — Deposits and other credits are of 
course added to the old balance, debits must be de- 
ducted, and the new balance extended. When it is 
considered that an account may have several credits 
and debits, necessitating rapid mental calculation in- 
volving more than one addition and subtraction, and 
that all this must be done in a few seconds, the im- 
portance of extreme accuracy may be realized. The 
use of the bookkeeping machine eliminates errors of 
calculation. Credits are usually posted separately, 
but debits against a single account may be listed in a 
subsidiary ledger, only the total being entered in the 



STANDARD BANKING 171 

regular ledger, which total is indicated by a symbol 
denoting that it is a list total. Letters and symbols 
are used extensively in bookkeeping ; the proceeds of a 
discount may be indicated by D, mail credits by C/L 
(cash letter), interest credits by INT, and in posting 
to bank accounts the number of a draft is invariably 
set opposite the amount. 

STATEMENT OF ACCOUNT.— When the 
bookkeeper has finished posting the ledgers the items 
are turned over to the statement clerk and a duplicate 
record is made on the depositor's statement of ac- 
count. In this case, however, each item is posted sep- 
arately, as this is sent the customer with the cancelled 
checks. Whenever practical the statement is posted 
from different material than that used in posting the 
ledger, as an additional precaution against error. For 
example, the bookkeeper posts deposits from the de- 
posit ticket, while the statement clerk might post from 
a window sheet furnished by the receiving teller. 
Mail credits are posted to the ledger from credit tick- 
ets made out when the mail is opened and the state- 
ment from the letters themselves. 

METHOD OF PROOF.— After the debits and 
credits have all been entered and the balances ex- 
tended it is necessary to prove the posting. Some 
banks take a trial balance of the entire ledger, proving 
the total against the general ledger. Others list the 
old balances and the new balances of those accounts 
which have been posted, and in this case the difference 
between both totals should equal the difference be- 
tween the total debits and total credits as shown by 



172 STANDARD BANKING 

the journal, regardless of the aggregate of either. A 
method in use with the Boston ledger is to add the 
credits of the day to the total of the old balances, de- 
duct the debits, and prove the amount against the 
total of new balances — the result being proved to the 
general ledger figures. When the posting machine is 
used a proof may be taken by calling back the ledger 
balance of each posted account against the balance as 
shown by the statement. The ledger and statement 
having been posted by different persons at different 
times and the calculations performed automatically 
by the machine, if no errors are found in either post- 
ing, the work is assumed to be correct on the theory 
that two persons will not make the same error. Even 
in this method, however, the human element, which is 
never infallible, is not entirely eliminated. However, 
a combination of the last two mentioned methods is 
found to give an accurate proof. 

Loans and Discounts and Acceptances 

LOAN METHODS.— Before a customer brings 
his note to the discount or loan window, he has had the 
official approval of his line of credit, and the actual 
borrowing is started by the presentation of his note — 
with collateral, if required — for the loaning officer's 
initial of final approval. He then takes his note to 
the window and presents it, together with his pass- 
book. If commercial paper is purchased from a note 
broker, a check is given him for the proceeds instead 
of the item being entered in the pass-book. If a dis- 
count, the amount of discount is figured and deducted, 



STANDARD BANKING 173 

and the proceeds entered in the customer's pass-book. 
The teller usually enters the transaction on his dis- 
count blotter (a memorandum of the day's work at the 
window) and turns the note over to the register clerk. 
If a collateral loan has been made, it would be entered 
in the customer's book after the collateral had been 
checked. The teller would have entered the transac- 
tion on his blotter and handed the collateral and note 
to the collateral clerk and a memorandum of the note 
to the register clerk. The collateral clerk would make 
out a collateral card as shown in figure 6 and then 
file the collateral with the note in an envelope under 
the customer's name, and would file the card in like 
manner. Substitution of collateral must be accounted 
for by substitution slips and the record card changed. 
Collateral values must be carefully watched. 

DISCOUNT METHODS.— The register clerk 
usually takes both discounts and loans- — though in 
many large institutions separate registers are kept for 
loans — and enters them. He also makes out a credit 
ticket for each customer, showing the amount of the 
note, the discount, and the proceeds actually credited. 
These tickets are turned over to the receiving teller 
who puts them through his proof sheet (or the reg- 
ister clerk may have a proof sheet of his own), turn- 
ing over the tickets to the bookkeepers for posting. 
The debit of the tickets is charged against "loans and 
discounts," and the two credit totals — "unearned dis- 
count" and "individual ledgers" are the offsetting en- 
tries, the general ledger keeper taking the unearned 
discount figures from the receiving teller's proof, and 



174 



STANDARD BANKING 

Loan Card (Fig. 6) 

$ 



No. 






















9 














1 
























































































1 










Jan. 








Apr. 








July 


| 






1 Oct. 


| 






Feb. 








May 








Aug. 








jNov. 


1 






Mar. 








June 


1 






Sept. 








1 Dec. 


1 


1 



COLLATERAL 



New York, 



Received all collateral to the above-mentioned loan 
19 



STANDARD BANKING 175 

the individual ledger figures being grouped with the 
total of all other credits sent to that department. At 
the end of the day the register clerk can check his own 
figures by running up his notes and also adding his 
register figures. Both of these should balance with 
the total of both the discount and loan blotters and al- 
so with the amount charged against loans and dis- 
counts on the receiving teller's proof sheets. When 
the notes prove, they are then sorted alphabetically 
and posted to the liability ledger or bill book which 
shows the amount borrowed by each customer, 
whether on his own note, a note of some one else in- 
dorsed by him, or whether he is contingently liable as 
maker or indorser on the note of some other borrower 
in the bank. The amounts of the notes on which the 
customers actually received the proceeds, when to- 
taled, should prove with the amount carried on the 
general ledger against loans and discounts. In this 
way, provided the ledger has been posted accurately 
(and the entries should be checked daily), a correct 
record may be kept of all borrowers' liability to the 
bank on loans and discounts. A specimen form of the 
discount register is shown in figure 7. 

MATURITY TICKLER.— After having been 
posted to the liability ledger, the notes are then sorted 
according to maturity (the maturity having been 
checked by a second person) and then entered in the 
tickler or maturity record on the day they are due. They 
are filed under maturity when they will automatically 
come up for payment. Demand notes are filed accord- 
ing to name and so kept until payment is called for. 



176 



STANDARD BANKING 



Discount 



Date 



Num- 
ber 



Borrower 



Maker 



Collateral or 
Endorser 



Place of 
Payment 



ESSENTIAL RECORDS.— There are many up- 
to-date systems which, by the use of a typist, may per- 
form two or more of the operations mentioned here; 
but the operations, whether abbreviated or not, must 
take place. No system has yet been invented satisfac- 
torily to take the place of a well-kept liability record or 
bill book as shown in figure 8. 

FOREIGN COLLECTIONS.— If a note is due 
out of town, it is taken out of the files about two weeks 
in advance and sent to the collection teller, who enters 
it for collection and sends it to a correspondent bank 
which will present it at maturity. The collection teller 
also takes items direct from customers and sends them 
out for presentation and collection, receipting for 
them in the back of the customers' pass-books, and 
when payment is received, crediting the customers' 
accounts. The manifold form, shown in figure 9, is an 
approved, up-to-date collection record. 



STANDARD BANKING 



177 



Register (Fi g . 7) 



Indi- 
vidual 

De- 
posits 



Date 



Time 



Due 



Rate 



Dis- 
counted 
Bills 



"Fills 1 

Dis- ! 

counted 

Eligible 



Time 
Loans 
Liberty 
Bonds 



Un- 
earned 

Dis- 
count 



Seven copies of this form are printed with one 
operation of a typist. They serve the following uses : 

Original — Letter to the collecting bank. 

Second — Acknowledgment from the collecting bank, 
which, upon receipt, is noted on the third copy and filed away 
for future reference. 

Third — Permanent record which is filed under the name 
of the collecting bank until paid and then under the depositor's 
name. All notations as to disposition of item, etc., are made 
on this copy. 

Fourth — Debit to the collecting bank when item is paid. 

Fifth — Credit to customer's account. 

Sixth — Advice to customer. (Numbers four, five and six 
are filed under the customer's name until payment is received.) 

Seventh — Record of original entry which is filed under 
the number given the collection. 

The foregoing records are conclusive for present 
day needs and provide a record of each item which 
leaves no loophole for loss of items, except, of course, 
loss through the mail. 

COMMERCIAL LETTERS OF CREDIT AND 
ACCEPTANCES.— When a commercial letter of 



178 



STANDARD BANKING 



Liability 



LINE GRANTED 

OWN 

OWN ENDORSED, 
OTHER 



BUSINESS. 



ADDRESS. 



DATE 



MAKER 



ENDORSER OR COLLATERAL 



Rate 



credit is issued, a separate record is made, showing as 
an asset the amount due from the customer, the same 
amount being shown as the bank's liability to the 
beneficiary of the letter of credit. When an accep- 
tance is made under the letter of credit, the amount of 
the bank's liability under the letter of credit is reduced 
and a new liability for the acceptance outstanding 
is set up. The arrangement is usually made that the 
customer shall deposit funds to meet the draft a day 
before it matures, and the money is entered as a debit 
(increase) to cash and a credit (decrease) of the cus- 
tomer's liability to the bank — or as a debit to cash and 
a credit to "anticipation account," to which account 
the acceptance is charged when it is paid, the entry 



STANDARD BANKING 



179 



Record (Fi g . s) 



Sheet No. 



NAME. 



Due 
Date 



Date 
Paid 



Liability as Endorser or Dis- 
counted for Own Account 



Own 
Paper 



Liability on Paper Dis- 
counted for Others 



(Endorser or 



Other 11 

Paper 1 1 Date | Balance i Maker [J Guarantor [| Balance 



then being a debit to "anticipation account" and a cred- 
it to whatever account payment was made from. The 
"due from customers" and the "acceptance outstand- 
ing" records are then adjusted by a per-contra entry. 
While the letter of credit and the acceptance are in 
force, a record is kept of the customer's liability to the 
bank on the form shown in figure 10 which also shows 
the terms under which the letter of credit was drawn. 

Figuring Reserves 

PURPOSE OF RESERVE.— A bank reserve 
is the fund which experience has taught should be the 
limit beyond which a bank should not extend its loan- 
ing operation. In other words, while serving as an 



180 



STANDARD BANKING 



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Depositor's 

Number or AMOUNT 

Letter Date | 


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Items 
Marked 

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Protest 




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STANDARD BANKING 181 

emergency fund to a certain extent, its real value lies 
in that it is the barrier beyond which further expan- 
sion by a bank must halt, unless reinforced by the pro- 
ceeds of rediscounts for which the banker must pay 
the rates set by the Federal Reserve Board or by his 
city correspondent, if he is not a member of the Fed- 
eral Reserve System. This fact has been recognized 
by the various authorities and both National and State 
laws have been passed calling for certain minimum 
reserves The actual figuring of the reserve is a 
rather automatic process. The form prepared by the 
Federal Reserve Board for the computation of re- 
serve to be carried by member banks with Federal 
Reserve banks follows: 

Net Demand Deposits 

1. Deposits payable within thirty days, not including: 

(a) U. S. Government deposits. 

(b) Certified checks outstanding. 

(c) Cashiers checks outstanding $ 

2. Balance due to banks other 

than Federal Reserve $ 

2 A — Balance due foreign 

banks $ 

3. Cashiers checks outstanding $ — 

4. Certified checks outstanding $- 



Total $ 

Less: 

Deductions of the following items are permitted 
only from the total of Items 2, 3 and 4. Should 
the total of Items 5, 6, 7 and 8 exceed the total 
of Items 2, 3 and 4, both groups must be omitted 
from the calculation. 

5. Balances due from banks 

other than Federal Re- 
serve Banks $ — 

6. Items with Federal Reserve 
Bank in process of collec- 



tion $- 

7. Exchanges for clearing-house $- 



182 



STANDARD BANKING 

Letter of Credit 



CHARGE ACCOUNT 
COLLECT FROM 



COLLATERAL 



SPECIAL INSTRUCTIONS 



COMMISSION 



DOCUMENTS RECEIVED 


DESCRIPTION OF 


ETC 
Docu- 
mentary 
Number 


DATE 

New For- 
Yorkeign 


From 


t> n Cons. 

B/L Inv. 


Coml 
Inv. 


Mar. 
Ins. 


War 
Risk 


Various 


Date 
Doc. 
Del'd 


Marks, Numbers, 



8. Checks on other banks in 

the same place $ 

Total deduction (Items 

5, 6, 7 and 8) $ 

9. Net balance due to banks $- 



10. Total Net Demand Deposits (Items 1 and 9) 
Time Deposits 

11. Savings accounts (subject to not less than 

thirty days' notice before payment 

12. Certificates of deposit (subject to not less 

than thirty days' notice before payment) 



$- 



STANDARD BANKING 
Record (Fi g . 10) 



183 



AMOUNT 
ISSUED 



DRAWINGS 



BALANCE 



DRAWINGS 



BALANCE 



MERCHANDISE 



Shipped 
and Kind Per 

Vessel 



STATEMENT 



Sailed 
From 



Date 



Amount 
of Draft 



Com- 
mission 



Rate 



Dollar 
Amount 



Due 
Date 



Paid 



CHARGES BY CORRESPONDENT 

Date Foreign Amt. Rate 



Dollars 



Firsts 



Seconds 



Documents 
Examined By 



13. Other deposits payable only after thirty days $- 

14. Postal Savings Deposits $- 

15. Total Time Deposits (Items 11, 12, 13 

and 14) $- 



RESERVE REQUIREMENTS.— The reserve 
requirements for various institutions under State 
supervision differ in some respects, but the underlying- 
principles are the same as those stated in the pre- 



184 STANDARD BANKING 

ceding paragraph. The Federal requirements are 
that certain reserves must be kept against the de- 
mand deposits and time deposits. These require- 
ments follow: 

Demand Time 

In Central Reserve Cities 13% 3% 

In Reserve Cities 10% 3% 

Elsewhere 7% 3% 

The law also provides that when a bank is located 
in the outlying districts of a central reserve or 
reserve city the Federal Reserve Board may, on af- 
firmative vote of five members, instruct the said bank 
to maintain reserves as if located in a city under a 
lower classification — i.e., either 10% and 3%, or 7% 
and 3%, as the Board may direct. The State laws in 
some cases have been amended so that they allow 
State institutions to carry a part or all of their re- 
serves with the Federal Reserve Banks. 

EXPLANATION OF RESERVE ITEMS.— In 
view of the fact that forms are supplied and that the 
reserve required is a matter of multiplying the "net 
demand" and "total time" deposits by the required 
reserve percentages, it may be interesting to state 
briefly what is required in the Reserve form. Expla- 
nation of Items 1 and 11-15 is unnecessary. Items 
No. 2, 2a, 3 and 4 represent the gross "due to banks." 
Cashiers' and certified checks are included because the 
greater majority of these are in the exchanges of other 
banks and are collected the next day through the 
clearing house or by hand. Items 5, 6, 7 and 8, are 
the gross "due from banks" other than the Federal 
Reserve "reserve account." Exchanges and cash 



STANDARD BANKING 185 

items are included as these are also due from banks 
on the next day. Gross "due from banks" are de- 
ducted from gross "due to banks" and the net amount 
(Items 9) added to Item 1, making a total "net de- 
mand deposits" (Item 10). If "due from banks" is 
greater than "due to banks," the items are entirely 
eliminated and the required reserve percentage on 
demand deposits is used as the multiple of Item 1 to 
ascertain the amount of reserve required in terms of 
dollars. This method of calculation is based on the 
theory that "due from banks," being so many actual 
dollars in reserve— though not legal reserve — may be 
offset against the "due to banks," the reserve to be 
figured only on the net liability plus the demand de- 
posits (Item 1). 

CASH. — Cash in vault is not allowed, either as a 
reserve or a deduction from deposits, as such an 
allowance would defeat the plan for automatic retire- 
ment of Federal Reserve notes. This plan is based 
on the fact that the banks naturally protect their own 
interests, and when notes, if not required to meet 
daily business needs, begin accumulating in the bank's 
vaults, it is certain that the banker, not being able 
to count excess cash as a reserve, will see to it that 
it is shipped, either to the Federal Reserve Bank 
of his district, or if he is not a member of the system, 
to his city correspondent by whom it will eventually 
be sent to the Federal Reserve Bank. Federal Re- 
serve notes may not be paid out by any but the issuing 
bank, so notes deposited with any Federal Reserve 
Bank will automatically find their way either to the 



186 STANDARD BANKING 

issuing Federal Reserve Bank, or, on its order, to 
Washington for redemption. If notes are no longer 
required by the issuing banks to supply members, due 
to the lack of demand for them from member banks to 
meet currency requirements, the Federal Reserve 
banks will retire them by presenting to the Federal 
Reserve Agent a given amount and receiving from him 
a like amount of collateral which has been deposited 
when the notes were issued. The Federal Reserve 
System provides for both automatic increase and de- 
crease of notes based on the business needs of the 
country, and both have worked as planned. 

Bank Auditors 

AUDITOR'S RESPONSIBILITIES.— Federal 
and most State laws put the responsibility for operat- 
ing a bank squarely up to the board of directors of the 
bank. These directors appoint officers who are in 
charge of the various parts of the operation explained 
in other chapters of this book. It is impossible for 
the board to keep a close check on all that goes on in 
the bank, although legally they are expected to do so. 
While banking laws generally provide for periodical 
directors' examinations, in which the directors are 
usually assisted by a firm of auditors or accountants, 
it is obvious that, if the board wishes to maintain ac- 
tive observation of operations it must have a repre- 
sentative in the bank at all times. This should be the 
position of the auditor in any bank, for as soon as he 
becomes responsible to some officer also in charge of 
operations the check on such operations which the 



STANDARD BANKING 187 

board should have, is nullified. Whether the particu- 
lar title given the man who performs the task thus 
described is auditor, or comptroller or vice-president, 
matters not so long as he is directly responsible to the 
board of directors and makes his reports to it. No 
important change in the system of the bank should 
be attempted without the cooperation of the auditor 
as the representative of the board of directors. 

WORK OF AUDITING.— All bank reports, in- 
come tax reports, etc., are made out by the auditing 
department. All reports of loans, discounts, accep- 
tances, etc., are also checked by this department before 
they are presented to the board of directors. Period- 
ical audits of each department of the bank are made 
without notice to the department that such a check is 
to be made. 

AUDIT OF LOANS AND DISCOUNTS.— In 
the loans and discounts department a run-up of the 
notes is made and proved to the general statement. 
Collateral is checked and if necessary, verified to the 
customer, though this is usually left to the bank ex- 
aminers or outside auditors who assist in the directors' 
examination. In some banks the auditors maintain a 
joint control of the collateral. A check is usually 
made of the discount deducted on notes and the pro- 
ceeds and discount items are followed through to the 
individual and general ledgers. 

EARNINGS AND EXPENSES.— Earnings ac- 
counts on the general ledger are footed to avoid the 
possibility of tampering by any employee. In some 
banks a daily check is made of the earnings and ex- 



188 STANDARD BANKING 

pense accounts by a representative of the auditing de- 
partment. In other banks schedules of earnings 
and expenses are kept in duplicate in the audit- 
ing department so that the possibility of embezzle- 
ment in this direction is eliminated. All accruals of 
interest are also checked as well as payments of in- 
terest. 

AUDIT OF INVESTMENTS AND OTHER 
SECURITIES.— All invoices for investments are re- 
figured and the securities themselves are checked into 
the vault under the auditing department control. If 
the bank is large, a vault man is employed who repre- 
sents the auditing department on all securities enter- 
ing or leaving the vault. On all securities held for 
safe-keeping or by the trust department a similar con- 
trol is maintained, so that no one can enter or remove 
any securities from the vault without the presence of 
a representative of the auditing department who 
makes an entry of each "in" and "out" to be posted 
on the auditor's control record of securities held. On 
such securities as are left in control of the security 
clerk an examination is made periodically. The 
auditor checks the accrual figures made by the securi- 
ties department or his department makes all accruals. 
The system used depends on the bank and its require- 
ments. Bonds and mortgages, real estate deeds, etc, 
are usually kept under separate control and subject 
to the same restrictions when entered or delivered. 

AUDIT OF ACCEPTANCES AND LETTERS 
OF CREDIT. When a letter of credit is signed by 
an officer, a slip showing the name of the beneficiary 



STANDARD BANKING 189 

(the bank's customer), the amount and the number 
of the letter of credit should also be presented, and as 
the officer signs the credit he also should initial the 
slip and put it in a small locked box in his desk. The 
same procedure should be followed with regard to 
drafts or certified and cashier's checks or acceptances. 
The auditing department, upon collecting these slips 
from the various officers, is provided with a check on 
all of these various items issued, as the numbers and 
amounts on the initialed slips must compare with the 
book records of payments made. 

AUDIT OF CASH. An examination of the tell- 
ers' cash is made at irregular intervals. The reserve 
cash is almost always under the auditor's control, so 
that an examination of this reserve cash is usually 
unnecessary, as access to it can be had only by the 
paying teller and a representative of the auditing de- 
partment. 

AUDIT OF DEPOSITS.— Depositors' ledgers 
are footed occasionally and statements or pass-books 
are balanced by the auditing department or by the 
statement department under the supervision of the 
auditing department. Certificates of deposit, cash- 
ier's checks, certified checks and bank drafts are all 
controlled similar to "acceptances." Analysis of de- 
positors' accounts are also made from time to time to 
show the amount of free balance, or to show, in many 
cases, that an apparently large average balance is 
really an overdraft when taking into consideration the 
number of checks always in process of collection. In 
many banks this is corrected by having the interest 



190 STANDARD BANKING 

due on the account run only from the approximate 
date of the payment of the checks by the drawee 
banks. It often happens, when the matter is followed 
up closely, that the customer may be owing money 
to the bank for drawings against uncollectible funds 
instead of the opposite being true. 

AUDIT OF BILLS PAYABLE AND REDIS- 
COUNTS. — These items are usually checked by the 
auditing department when an examination is made 
of the loans and discount department or the securities 
department, as either discounts or securities are usual- 
ly pledged and in order to verify the assets it is neces- 
sary to verify also the amount held by the lending 
bank as collateral to its loan. 

AUDIT OF DAILY PROOFS.— The daily proof 
sheets made by the various departments are consoli- 
dated either by a department organized for that pur- 
pose and checked by the auditors or by the auditing 
department itself. Each department is then directed 
to turn over its individual proof of the day's work to 
the auditor, who checks it with the combined proof- 
sheet of the work of the same day. In this way a 
control on all "strikes" by departments is made daily 
and by regular departmental audits the correctness of 
any one department may be determined. After the 
daily proof has been checked the combined figures are 
compared with the entries made in the general ledger, 
and if they agree the daily proof is complete. 

AUDITING METHODS DEPEND UPON 
CIRCUMSTANCES.— In the brief description of the 
work of the auditor a medium sized bank of about 



STANDARD BANKING 191 

$30,000,000 in deposits is used as an illustration. The 
methods used and the detail of the control maintained 
must all be subject to the general conditions surround- 
ing the needs of each bank. In some banks an at- 
tempt is made to distribute costs among the various 
departments to show their net earnings, but this has 
met with rather indifferent success, as it is very dif- 
ficult to apportion costs and earnings in the ordinary 
bank. An auditor is, however, a necessary fixture in 
any bank where the board of directors wishes to main- 
tain a close observation of operations. 

Bank Supervision 

ESSENTIALS OF BANK EXAMINATION.— 
Since a bank is a semi-public institution, employing 
the money of its depositors as well as its own in con- 
ducting its business, it follows that there should be a 
certain amount of supervision on the part of the civil 
authorities. The duties of a bank examiner may be 
likened somewhat to those of the physician who in- 
terviews his patient on the assumption that the latter 
may be ill. Hence the bank examiner not only certi- 
fies as to the correctness of the accounts, but he must 
also be on his guard against possible irregularities. 
The duties of examiners vary as the Federal and State 
laws vary, and similar distinctions exist in their per- 
sonalities and methods of solving problems. The 
evidence available compels the conclusion that nearly 
all examiners do their duty as best they understand it. 
They are all agents of some department of the Govern- 
ment or State and are charged with the execution of 



192 STANDARD BANKING 

law. The duties of an examiner are to ascertain: 

1. That the institution is solvent. 

2. That the management is honest. 

3. That the policies and tendencies are safe and 
sound. 

4. That it is not violating the law. 

5. That the facts are accurately reported to his 
superior officer. 

DETAILS OF EXAMINATION.— Based on 
these requirements are many responsibilities and 
duties of detail whose ramifications are numerous and 
complex. This vigilant examiner has a topical list of 
the duties he considers essential to a thorough in- 
vestigation, and although the method is frequently 
changed, a synopsis of the details would be about as 
follows : 

1. Count the cash on hand and verify the amount 
with the ledger. Obtain explanations for all cash 
tags and memoranda. Verify and list the cash items 
held in lieu of money, items to be collected and re- 
turned items. Inquire if a petty cash fund exists, and, 
if so, examine carefully. Verify details of the day's 
exchanges and drafts sent in or out on balances. 

2. Scrutinize, list and classify loans and dis- 
counts; carefully examine collateral; be sure all notes 
are signed; record past due paper and arrearages of 
interest payments ; be sure no loans exceed the legally 
prescribed limits. In most States savings banks are 
not permitted to loan on commercial paper, or unse- 
cured loans. 

3. Count and examine the bonds and securities 



STANDARD BANKING 193 

and verify book values with the general ledger. Cal- 
culate the market value and compare with book value, 
noting appreciation or depreciation. 

4. Inspect and list mortgages; be sure taxes are 
paid; that title insurance, appraisal certificate, assign- 
ment and insurance policy are on file; that the mort- 
gage is not in excess of the legal percentage of the 
appraised valuation; and that the mortgage has not 
been foreclosed. 

5. Real estate owned — examine deed, tax re- 
ceipts, title guarantee, appraised, assessed and book 
values. Is the insurance sufficient? 

6. Carefully investigate overdrafts and if uncol- 
lectible have them charged to profit and loss. 

7. Investigate the liability of directors and of- 
ficers on loans and overdrafts. 

8. Be certain that furniture and fixtures figures 
are not excessive. 

9. Become familiar with the hidden assets (re- 
serves) in the above accounts. 

10. Foreign Department. If shown on balance 
sheet as separate item, verify all assets and liabilities 
of this department, being sure to note contingent re- 
sponsibilities. Send for statements from all foreign 
banks closed at approximate mailing time after ex- 
amination. Acceptances and letters of credit are 
usually verified by letter to the customer for whom 
they were issued. 

11. Capital stock should be verified by prov- 
ing issues, cancellations and outstandings. Look 
for over-issues. Where bank has a registrar, out- 



194 STANDARD BANKING 

standing shares may be checked with its records. 

12. Verify amounts due from banks and bankers, 
asking for statements as of date of examination. 

13. Make thorough test of individual deposits, 
examining dormant accounts, etc. 

14. Make tests of interest calculations and 
classify interest bearing accounts. 

15. Verify total of outstanding certificates of 
deposit. Be sure the old ones are cancelled and that 
partial withdrawals are recorded on the stubs. Prove 
total with controlling figure of the general ledger. 

16. Verify cashier's checks in a similar manner. 

17. Verify certifications with the certification 
book and if in doubt let the receipt for returned 
vouchers be produced. 

18. Verify cotton, coffee and produce margins. 

19. Verify provident accounts. 

20. Search for hidden profit and loss items which 
may frequently be found in the individual ledgers. 

21. Verify revenue and expense accounts lead- 
ing to correct profit and loss and surplus figures and 
analyze them. 

22. Contingent liabilities should be carefully in- 
vestigated. 

23. Prove all accruals, whether receivable or 
payable, and all unearned discount. 

24. Prove last published statement, and recon- 
cile it with the general ledger. 

25. Carefully scan the minute book and note any 
changes of policy. 

26. Verify all bills payable or rediscounts. 



STANDARD BANKING 195 

GENERAL PLAN OF EXAMINATION.— 

One of the first duties of an examiner upon beginning 
an examination is to place seals upon all the vaults or 
safes containing cash or securities, and keep them 
under seal until the verifications are completed. By 
this means all the securities held are under control 
simultaneously. The seals may not be broken by the 
officers or employees of the institution, otherwise their 
purpose would be defeated. By the proper use of seals 
the substitution of securities is prevented. Having 
safeguarded the substitution of securities the ex- 
aminer counts the balance of cash on hand and scruti- 
nizes the cash items carefully. Transfers from one 
teller to another or the sending out for cash to conceal 
defalcations, etc., should be immediately detected by 
means of a distribution of the staff of examiners. 
Clearing house and collection items are either sent out 
by the examiner himself, or are properly confirmed by 
the members of the clearing house and correspondents. 
The examination of demand loans and collateral is one 
of the most important branches of the work, and many 
defalcations have been hidden by the failure to indorse 
partial payments. The only absolute way to ascertain 
the correctness of these loans and collaterals is to send 
out a memorandum to each borrower setting forth the 
amount of loans and collaterals held as on the day of 
the commencement of the examination. If such a 
thorough proof is considered necessary in the case of 
the institution under investigation, the customer's con- 
firmation should be returned addressed to the exam- 
iner. As a matter of fact, however, a test is very often 



196 STANDARD BANKING 

considered sufficient. The possibilities of raised stock 
certificates must be borne in mind. Amounts may be 
changed from a small number of shares to a larger 
number and used for fraudulent borrowings. A 
thorough examination of a trust company must em- 
brace the trust, safe deposit and other departments 
which may be conducted by the company under in- 
spection. The examination of the securities in a trust 
department is as important as the examination of the 
banking department. Often the market value of in- 
vestments is largely in excess of the book value. Real 
estate owned, and furniture and fixtures are also often 
carried at less than their actual value. Such conser- 
vative figures hide secret reserves which are favored 
by careful bankers. Nevertheless, the abuse of secret 
reserves must be guarded against despite the fact that 
a balance sheet is not, and does not pretend to be a 
statement of officially determined facts. It is merely 
a conservative estimate of a financial condition which 
by its very nature cannot possibly be accurately 
determined. 

THOROUGHNESS OF EXAMINATION.— 
It was formerly considered that if an examiner had 
verified the assets of an institution and found them as 
stated, he had ascertained that the institution was sol- 
vent, and that he had completed the work required of 
him. However, examiners are no longer satisfied un- 
less they have also verified the liabilities. The ac- 
counts with other banks have to be verified by corre- 
spondence, and the replies are mailed direct to the 
examiner, or verifications are sent to the department's 



STANDARD BANKING 197 

offices where certain examiners effect the reconcilia- 
tions. Deposit accounts are a fertile field in which to 
detect wilful as well as inadvertent wrongdoing, be- 
cause defalcations and also false balance sheets are the 
results of manipulations of the individual deposit ac- 
counts. The dormant accounts should receive especial 
consideration, and, if the examination is to be a 
thorough one, letters should be sent to obtain the pass- 
books of all the prominent accounts and their balances 
should be verified. It is not possible in an ordinary 
examination to verify all the individual pass-books for 
several reasons, the principal ones being the volume 
of work such a method would require and the inadvisa- 
bility of arousing depositors' suspicions and injuring 
the bank's patronage by asking to have all the books 
sent in. The pass-books of the larger depositors 
should be frequently balanced. By keeping a list of 
the books inspected during the course of an examina- 
tion, it is possible during a period of years to examine 
all of the accounts. The examiner should assure him- 
self that an internal system of auditing prevails in an 
institution. The method of preparing monthly state- 
ments of depositors' accounts is superior to the pass- 
book settlement, because it enables the examiner to 
verify all depositors' balances on the same day from 
the confirmation of the correctness of the accounts 
received from the depositor himself, this being the 
best method of insuring accuracy. The rudimentary 
precautions of an effective system of checking records 
may be formulated in the following three fundamental 
rules: 



198 STANDARD BANKING 

1. No clerk should have access to the books re- 
cording entries which go to check the entries made by 
that clerk, i. e., tellers should not be permitted to keep 
or assist in keeping any of the ledgers or checking off 
of trial balances thereof. 

2. The clerks should be shifted about at inter- 
vals, so that fraud, even if committed, may be easily 
detected by a different clerk going over the same ac- 
count. 

3. That no cash entries (transfers, for example) 
should ever be made without especial authority, con- 
firmation of which is usually evidenced by the initials 
of the officer authorizing the same. 

COMPETENCY OF EXAMINERS.— The test 
of an examiner's competency is his ability to judge of 
the correctness of items by an executive testing — not 
necessarily of the items themselves, but of their totals. 
The responsibility of verifying the bank's books rests 
not only with the safeguarding of the interests of the 
stockholders, but in offering to the public a guarantee 
of the accuracy of the records. Precaution must be 
exercised to discover the existence of duplicate pass- 
books. In some institutions the old custom of use of 
duplicate deposit slips and the writing of the details 
of the checks drawn (i. e., numbers, dates, etc.) in the 
pass-books is an effectual preventative of this kind of 
fraud, notwithstanding that such a system largely in- 
creases labor and is too cumbersome to find favor upon 
the stress of business of a large modern bank. From 
the foregoing sketch of an examiner's duties it may be 
seen that the solvency of an institution and its obedi- 



STANDARD BANKING 199 

ence to the laws and the honesty of the management 
and employees are thoroughly tested during the exam- 
ination by each phase of the investigation. In order 
that the examiner may convince himself that the 
policies and tendencies of the institution are for the 
maintenance of the principle of safe and sound bank- 
ing, he must not only have a broad comprehension of 
the affairs of the institution, but must have detailed 
information on numerous subjects. 

CATEGORICAL QUESTIONS. — Arranged 
categorically and regardless of a seeming repetition 
of topics, answers to questions similar to the follow- 
ing enable the examiner to form a just opinion of the 
administration of the bank : 

1. Were loans made during the period to the 
directors (or trustees), officers or employees? 

2. Are there any advances either direct or in- 
direct upon shares of the stock of the institution? 

3. What is the value of the notes which are past 
due? 

4. What is the estimate of the value of single 
name obligations? 

5. Are there any excessive lines of credit? 

6. Have latest financial statements been obtain- 
ed from borrowers? 

7. Are there acknowledgments in writing ad- 
mitting the validity of large borrowings made by the 
makers or indorsers? 

8. Are the reserves always maintained? 

9. Are the securities carried at a figure in excess 
of actual market value? 



200 STANDARD BANKING 

10. Are the margins on loans sufficient? 

11. Are the margins within conservative and 
the legal percentages of appraised values? 

12. Are the officers and employees under suf- 
ficiently heavy bonds? 

13. Are the directors (or trustees) and com- 
mittee meetings regularly attended? 

14. Do the minutes of the institution indicate 
that the law is being obeyed and that its provisions 
have been enforced? 

15. Do the expense accounts accurately reflect 
the salaries and other financial operations? 

16. Are the disbursements properly vouchered? 

1 7. Was the last closing of the profit and loss ac- 
count on a uniform basis with previous bookkeeping? 

18. Is the income upon loans and investments 
at the rates shown by the ledgers? 

19. Are the safes secure, and are the premises 
properly sentineled by watchmen? 

20. In case of disaster requiring outside financial 
help, are there any resolutions on the minutes provid- 
ing for such assistance? 

21. Does the bank have the necessary books, 
and are they well kept? 

22. Are the bookkeepers and clerks frequently 
changed from one position to another? Is the book- 
keeping properly divided among the employees? 

23. Are daily cash balances and frequent trial 
balances made? 

24. What is the nature of the accounts of the 
employees which are kept in the bank. 



STANDARD BANKING 201 

25. What is the security upon overdrafts? 

26. Are the officers careful of the small things 
which count for good banking practice, such as pro- 
per filing, proper cancellation and pasting of stock 
certificates, paid certificates of deposits, paid officers' 
checks, indorsement of partial payments on loans, 
etc.? 

27. Are the computations of interest properly 
verified by another clerk? 

28. Are chemical or knife erasures on the book9 
very frequent? 

29. What is the method for requisitioning sup- 
plies, particularly such items as loose-leaf sheets or 
cards? 

30. What supervision exists over the custody of 
pass-books? 

31. Are the signature cards occasionally check- 
ed against the names on the individual ledgers, with 
the purpose of disclosing fictitious accounts? 

32. Is there official written authority for the 
important acts of the employees of the bank? 

33. Do the officials receive departmental re- 
ports? 

34. Are the original slips which furnish the 
authority for debit and credit entries author-initialed? 

SAFETY AND SOUNDNESS.— An examiner, 
when preparing to report upon an institution, must 
have ascertained the general character of its business 
and the personnel of its officers, and neither the of- 
ficers nor employees should know when the examina- 
tion is to be made. A bank should be so organized 



202 STANDARD BANKING 

that it welds together the different classes and con- 
ditions of the community. To limit the making of 
loans either to friends or enterprises in which the 
bank's officers are interested would be a great weak- 
ness in the management of a bank resulting in a loss 
of deposits, nor is it possible for bankers to be too 
careful with the investments of their trust funds. 
The funds of a commercial bank should always be 
loaned upon short time. Notes carried by a bank and 
continually renewed should be scanned with suspicion 
by the examiner, lest the makers can not pay when so 
requested. Every bank should insist upon the pay- 
ment of a part of the debt on each renewal, unless the 
loan be collateraled by ample security. Past due 
notes or loans and overdrafts are neither indicative 
of a healthy nor prosperous condition. Successful 
bankers and bank examiners are opposed to past due 
notes, overdrafts or cash items of long standing. 

Bank Publicity 

SERVICE AND PROFIT.— Banks are organ- 
ized with the two-fold object of (a) making money 
for their stockholders, and (b) serving the community. 
In order that a bank may achieve this two-fold object, 
it must obtain customers. After a bank has been es- 
tablished, almost the very first thing that is necessary 
is that public announcement be made that the bank is 
organized, and is fully equipped and ready to transact 
business. And the various means employed to spread 
this news is known collectively as "bank publicity." 
Now the ultimate purpose of all bank publicity is to 



STANDARD BANKING 203 

persuade potential customers to become actual cus- 
tomers. But bank publicity alone cannot accomplish 
this purpose. The bank itself must possess certain 
essential characteristics which will entitle it to the 
patronage of the community. These characteristics 
can be classified as follows : (a) Strength, evidenced 
by ample capital and surplus, with liquid and well 
secured portfolio; (b) Clean history; (c) Good per- 
sonality, evidenced by officers and employees of good 
character, ability and judgment; (d) Adequate equip- 
ment, meaning attractive building, well appointed of- 
fices and modern facilities; (e) Service, which is 
ability and disposition on the part of officers and em- 
ployees to give at all times agreeable and satisfactory 
service. Equipped with the above characteristics, a 
bank is justified in seeking business by every legiti- 
mate means. 

PERSONAL WORK.— The primary method 
and one which produces the most substantial results 
is personal work. In order to accomplish the maxi- 
mum in building the business of the bank, personal 
work should be carried on continuously by all the 
various folks who are more or less directly interested 
in the success of the institution. These folks natural- 
ly divide themselves into five groups: stockholders, 
directors, officers, clerks, customers. Obviously, the 
contact which is possible by means of personal work 
is limited, and right here is where bank publicity steps 
in and does its part. The word "publicity" as popu- 
larly employed, is a broad term which may include all 
of the various methods that are used in communicat- 



204 STANDARD BANKING 

ing with the prospective customer; thus we have 
"direct" advertising which includes personal letters, 
booklets, pamphlets, blotters, novelties, calendars, 
etc., and "indirect" advertising which is publicity 
directed in a general way to the public at large 
through magazines, newspapers, street car cards, 
painted bulletins, etc. 

DIRECT ADVERTISING.— The officers of a 
bank, who more than anybody else are charged with 
the responsibility of building the business of the bank, 
cannot devote all of their time to the personal work 
of soliciting business, and so some substitute must be 
found. Experience has shown that by far the best 
and most effective substitute for personal work is the 
personal letter. In order that the largest possible re- 
sults may be accomplished, the personal letter should 
be prepared with consummate care, should be ac- 
tually signed by an officer or with an officer's name, 
and should be sent out according to a reasonable sys- 
tem and to a carefully selected and corrected list of 
prospects. The booklet is another form of direct ad- 
vertising which is a substitute for personal work. A 
logical group of booklets would include: (a) one which 
in a general way is descriptive of the entire institution, 
its official and clerical organization, its departments 
and its various forms of service; (b) specific booklets 
covering respectively each form of service offered by 
the bank, or descriptive of each one of the various 
departments. Such booklets need not necessarily be 
sent out to prospective customers, but would better 
be held to be given out in response to inquiries. A 



STANDARD BANKING 205 

popular method of handling booklets like these is by 
means of newspaper advertisements which treat of the 
special form of service described in the booklet, and 
which carry an invitation to write or call for the book- 
let. By this method the bank can be sure that each 
booklet will get into the hands of a prospective cus- 
tomer who has interest sufficient to ask for it. 

INDIRECT ADVERTISING.— Banks that are 
seeking domestic or international business from out- 
of-town customers can use to advantage the various 
magazines that circulate nationally. Banks located in 
the reserve cities and who seek business from out-of- 
town banks can place their facilities before the banks 
of the country by advertising in the various banking 
and financial journals. Such advertising, however, 
should consist of real, meaty talks, rather than the 
formal stilted cards such as are now used by many of 
the banks. (See figure No. 11.) Advertising cards in 
street cars evidently have established their value as is 
evidenced by the large number of banks now employ- 
ing this form of advertising. The painted bulletin, 
provided it carries brief copy such as the name of the 
bank and a slogan, gives continuous publicity to a very 
large and constantly changing audience. Too many 
banks, as well as other advertisers, however, make the 
mistake of crowding the space with a lot of copy 
which the passerby in the automobile, or the street 
car, or on the sidewalk cannot possibly have time to 
read. By all means should the message on the painted 
bulletin be brief enough to be comprehended at a 
glance. 



206 STANDARD BANKING 

NEWSPAPER ADVERTISING.— According 
to its popularity and the demonstrated results which 
it can obtain, the local newspaper undoubtedly pro- 
vides the best medium for indirect advertising. And 
the extent to which the banks of the country are using 
the newspapers today confirm this opinion. The pur- 
pose of newspaper advertising, as often has been 
stated, is (a) to attract attention; (b) to excite inter- 
est; (c) to convince; (d) to create action. 

Dress. — In order to begin to achieve this purpose, 
care and attention must be given to the appearance 
and location of the advertisement. It must be simple ; 
should ordinarily employ but one type family in its 
composition, and as a rule carry not more than two 
display lines. (See figure No. 12.) The story should 
be set in plain Roman type, large enough to be easily 
read. The location, or position, if possible, should be 
top of column next to reading matter, and, where the 
practice of the paper permits it, on the front page or 
next to the locals on an inside page. 

The Message. — After the appearance and loca- 
tion of the advertisement have been taken care of, the 
next thing to consider is the nature of the message, 
or the wording of the advertisement. By all means 
this should be simple, direct, brief, and, as a rule, 
should consider but one point or feature at a time. 
Many banks make the grievous mistake of trying to 
tell the entire story of the institution in one advertise- 
ment, with the result that the prospective customer 
simply will not read it. 

Continuity. — Advertisements in local newspapers 



STANDARD BANKING 207 

should run regularly and frequently. If daily news- 
papers are used, advertisements should run at least 
once a week, and two or three times a week if possible; 
in weekly papers, every week. 

Change of Copy. — The message should be 
changed, if possible every time an advertisement ap- 
pears, on the theory that the advertising columns of a 
paper must compete with the news columns, and, 
therefore, always must contain new matter. 

Timeliness. — Advertisements frequently can 
make use of timely subjects such as the passage of 
laws affecting customers, local and national celebra- 
tions, holidays, local events of importance, etc., by 
which means the advertiser takes advantage of the 
publicity given such subjects in the news columns of 
the same paper. (See figure No. 13.) 

Size of Advertisement. — The size of an advertise- 
ment should be determined largely by the nature of 
the message. It is safe, however, for banks not to use 
too large space. Some banks make the mistake of 
taking entire pages when smaller space, well handled, 
is quite as effective. A good size for the average ad- 
vertisement is five or six inches in depth, by two or 
three columns in width, and if for any reason it is 
desired to dominate the page, five columns in width 
by twelve in depth will accomplish this result, assum- 
ing, of course, that enough white space is allowed on 
all sides of the advertisement inside of column rules. 

How to Determine Which Papers to Use. — In a 
small community, as a rule all the newspapers should 
be used, for obvious reasons. In larger cities those 



208 STANDARD BANKING 

papers should be used which circulate among the 
people that the bank desires to reach. The bank 
should insist on the newspaper making an exact state- 
ment of its circulation. 

Records. — An exact record of all orders given for 
advertising, bills paid, etc., should be kept. All ad- 
vertisements should be checked for insertion, position, 
appearance, etc. 

Files. — The bank should keep a complete file of all 
advertisements used in the newspapers. These ad- 
vertisements should be alphabetically arranged ac- 
cording to subject matter, or chronologically. 

Co-operation Between Banks and Newspapers. — 
The bank should co-operate with the newspaper by 
giving authentic news stories concerning the bank, al- 
ways with the understanding, of course, that the news- 
paper will be the sole judge of the news value of the 
story. A bank is always more or less a potential source 
of news, because people are naturally interested in 
the chief commodity which the bank handles — money. 
The election of new officers, an increase in capital or 
surplus, the declaration of a dividend, the organization 
of a new department, the erection of a new building, 
an unusual growth in deposits — any, or all of these, 
can serve as the basis for an interesting news story 
which most newspapers are glad to get, and which 
inevitably can assist in making the bank well known 
in the community. 

CONCLUSION.— Banks before advertising their 
business should have the five fundamental essentials 
of strength, clean history, good personality, adequate 



STANDARD BANKING 209 



Serving America's 
Second Sea-Port 

New Orleans, the gateway to Latin 
America through the Mississippi Valley, 
is second only to New York in its 
volume of international business. 

The city is destined to continue its 
growth as a great American port. 

This bank has grown with New Or- 
leans since 1870, and because of its long 
experience and broad service, is well 
prepared to handle your Southern busi- 
ness economically and efficiently. 

Institute 
Bank & Trust Co. 

Member American Bankers Association 

Gold and Bond Streets 
New Orleans 



Figure 11 



210 STANDARD BANKING 



Banking Service 
To Exporters and Importers 

Because of the abnormal conditions prevail- 
ing at this time, the details connected with the 
conduct of foreign trade are now more complex 
than at any previous time in our history. In 
spite of this fact, a tremendous volume of 
foreign business is being done, and there is 
much more to follow. 

We offer our service to exporters and im- 
porters, and shall be glad to help solve their 
overseas business problems. Our Foreign 
Department has facilities for the extension and 
handling of international trade. 

Our services include the financing of exports 
and imports; the furnishing of information as 
to the credit of foreign firms and foreign 
business conditions; the purchase and sale of 
foreign exchange; the bringing together of 
buyer and seller; and advice and assistance in 
connection with the observance of war-time 
export and import regulations. 

We invite your inquiries as to how our facili- 
ties will best meet your particular require- 
ments. 

Institute 
Bank & Trust Company 

Gold and Bond Streets 

New York 

Resources more than $100,000,000 

Member American Bankers Association 



Figure 12 



STANDARD BANKING 211 



The New Revenue Law 

The New Federal Tax Law affects 
individuals, corporations and partner- 
ships. 

Our new booklet on the subject con- 
tains the full text of the law, a concise 
exposition of its various provisions, and 
a complete alphabetical index. 

Our Trust Department is prepared to 
furnish you with a complimentary copy 
of the booklet, and will be glad to assist 
you in the preparation of your income 
tax return. 

We also have on hand a supply of 
the necessary forms upon which in- 
comes must be reported. 

Trust Department 

Institute Bank & Trust Co. 

Gold and Bond Streets 

New York 

Resources $100,000,000 

Member American Bankers Association 
Figure 13 



212 STANDARD BANKING 

equipment and satisfactory service. With these es- 
sentials as a basis, business can be built up by (a) 
personal work, (b) direct advertising, (c) indirect ad- 
vertising. If a bank possesses the fundamentals and 
keeps them concealed, it does not deserve to grow. 
There is no legitimate reason why a strong bank, with 
a clean history, a good personality, adequate equip- 
ment and satisfactory service should not make those 
features known to the community. And when a bank 
does this by intelligent personal work, and dignified, 
continuous publicity, it not only deserves but is quite 
likely to achieve permanent success. 

New Business 

SPIRIT OF SERVICE.— Almost every bank en- 
deavors to increase its deposits and other profit-pro- 
ducing business. Its activities in this direction come 
under the heading of new business, handled by the 
"new business department," the dimensions of which 
will vary from the desire of the cashier of a one-man 
bank to build up his bank as best he can, to the large 
city bank with its well-organized department of scores 
of people. It is no longer necessary to prove the de- 
sirability of making an organized effort to increase a 
bank's business. Additional deposits and new depos- 
itors are a necessity to any bank wishing to keep pace 
with the procession. Comparatively little worth- 
while business will come to the average bank unsolic- 
ited. The more business a bank obtains from its own 
customers, and from other persons and concerns in 
good standing, the more profit it should make, and ? 



STANDARD BANKING 213 

with increased profit it can better afford to extend its 
facilities for service. It is necessary for any bank 
which solicits business to create good will towards it- 
self. The bank must be strong, and possess a satis- 
factory history. The management must be in good 
hands, and the spirit of service must be reflected not 
only among the officers but down to the very least of 
the employees. Good service is essential at all times 
and a bank's position is worse when it has lost a re- 
cently acquired account than if it had never obtained 
that business in the first place. 

METHODS OF SOLICITING.— There are 
various ways of soliciting business. Some banks des- 
ignate certain officers to handle the bank's business 
with certain industries which, of course, enable the 
designated officers to become closely familiar with 
those particular lines of business. Other banks di- 
vide their business into States or other geographical 
divisions and designate certain officers to handle the 
business in those territories, which permits the banks 
to become well acquainted with the principal business 
men and bankers in any given territory. Every de- 
partment of a bank can cooperate with the men in 
charge of obtaining new business. Many opportuni- 
ties arise daily to disclose some individual or com- 
pany whose business the bank should be able to ob- 
tain. The growth of some banks can be traced almost 
directly to its list of directors. It is apparent that 
a director ought to use ail of his influence to direct 
business to his own bank. Every officer, no matter 
how busy, should act as a member of the new busi- 



214 STANDARD BANKING 

ness department and by his courtesy and tact, if 
nothing more, make people feel that his bank is a good 
one to deal with. Of course, the old saying that "a 
satisfied customer is the best advertisement" is cer- 
tainly true and a bank should not overlook opportuni- 
ties to get its customers to work in its behalf. A most 
important thing to remember is that only desirable 
business should be solicited. Aimless solicitation 
leads only to opportunities for trouble in the acquisi- 
tion of much business that is distinctly unsatisfactory 
or unprofitable. Every bank, especially in a city, 
should keep a record, based on credit standing and 
reputation, of the people whose business is desirable, 
and solicitation should be confined to those names. 

FAIR BASIS. — Business should be obtained on 
a fair basis, fair to both customer and bank. It does 
not pay to buy accounts nor to offer unusual conces- 
sions which are not being given to present good cus- 
tomers who have been depositors for a long time. It 
is also considered unwise to solicit business which can- 
not be handled satisfactorily. Ambition is a good 
thing but the solicitation of business must be predi- 
cated on belief equivalent to knowledge that the busi- 
ness can be handled satisfactorily. In soliciting busi- 
ness the needs of the prospective customer should be 
considered and solicitation made along those lines 
which would seem to be the most logical. There are 
certain times when people are more open to approach 
along particular lines than others, and this should be 
borne in mind. Then, too, any reasonable use of the 
personal element should be encouraged. 



STANDARD BANKING 215 

SOMETHING MORE THAN SALESMAN- 
SHIP.— The new business man should be a banker 
first. He should be something more than a sales- 
man. It is not always wise to sell goods which will 
not be used, and if a prospective customer cannot 
make practical use of the services of a particular 
bank, the bank in obtaining this account cannot be 
sure the relationship will be lasting. Solicitation in 
person is always more satisfactory than when done 
by mail or in any other impersonal way. One 
should be certain that the solicitation is directed 
toward the proper man in a company, and while, of 
course, it is necessary to adapt the argument to the 
understanding of the man called on, yet the talk 
should be concise and end sufficiently early to avoid 
becoming tiresome. Undue haste is not desirable, but 
follow-ups should be made at regular and reasonable 
intervals, either personally or by a booklet or some 
worth-while communication which serves to keep the 
bank in the man's memory. In the solicitation of 
business, unusual facilities should be emphasized, but 
of course all other services should be outlined too. In 
the banking business, as in all businesses, it does not 
pay to knock competitors directly or indirectly. When 
a city bank solicits business in other cities or in 
country towns, it should be careful to work with the 
banks in those places and not compete with them for 
business which the local banks are capable of handling. 

DEFINITE QUALITIES.— There are certain 
definite qualities which would be valuable for one to 
have in working for a new business department. The 



216 STANDARD BANKING 

representative must be enthusiastic, not prone to ex- 
aggeration or the promising of impossibilities ; should 
lean more towards under-statement than otherwise. 
He should, of course, be entirely familiar with his 
subject, know the bank's routine and services, and 
possess dignity, tact, and perseverance, which last 
should not lead him into becoming tiresome or ob- 
noxious. In correspondence, letters should be real and 
not haphazard, and preferably should be as close as 
possible to a face to face conversation. 

DEVELOPING OLD CUSTOMERS.— A bank 
should concentrate a large part of its efforts to devel- 
oping the business on its books. This is less expensive 
than soliciting business elsewhere, results are easier to 
get, and the benefits to the bank are much greater. 
It is necessary that a bank make good on the promises 
it has made to its customers and it should pay a great 
deal of attention to finding out the causes, and discuss- 
ing with the customer, when desirable, any markedly 
increased or decreased balances. It would pay a bank 
to keep a record of the services which it can place at 
the disposal of its clients, emphasizing their use, or 
neglect. Most banks which keep records of this sort 
revise such records every three or four months. Banks 
divide the services which they can extend into "gratu- 
itous services/' producing no direct recompense, and 
"earnings services," which are profitable or at least 
self-sustaining. In the former class would come the 
furnishing of credit information, holding of securities 
in safe keeping without charge, and the various other 
services which a bank has to render. Under the earn- 



STANDARD BANKING 217 

ings services could be listed foreign exchange transac- 
tions, travelers' checks, letters of credit, and all of 
the various trust functions for which a bank may 
properly make a charge. In addition to this list of 
services, the record would, of course, include the name 
of the depositor, his address, his business, a descrip- 
tion of the basis on which the account was secured, 
and all other important details, such as balances, and 
loans, especially including a record of the affiliations 
of the company or its principal officers. 



CHAPTER V 



Collections 

THE growth of industry and commerce has 
greatly increased the banking function of col- 
lecting the proceeds of checks, bills of ex- 
change, promissory notes, bond coupons, and other 
instruments of indebtedness. Although not expressly 
conferred in the National Bank Act nor in most State 
banking laws, a National or State bank has the un- 
doubted power to undertake collections and incur lia- 
bility for any violation of duty in that regard. This 
power is universally recognized by the courts. The 
relation which the collecting bank assumes to its de- 
positor or principal is held by some courts to be that 
of bailee, and by others agent. The undertaking is 
not gratuitous, for the general profits derived from 
handling the business, and the advantage from rates 
of exchange, constitute a sufficient consideration. 
The duty of a bank in making collections is to use due 
diligence. What constitutes due diligence depends 
on the particular circumstances surrounding each in- 
dividual case. In a general way it may be said that 
"a bank must use reasonable care and skill, keeping 
in mind the best interests of its principal." In the 
collection of out-of-town items the principal duty is 
in the selection of a correspondent. In the United 
States it is held to be negligent for a bank to send a 
check to the bank on which it is drawn, or a note to 

218 



STANDARD BANKING 219 

the bank where made payable, provided there is an- 
other bank in good standing in the same place; and 
in some States the sending bank is held negligent 
although the payer to whom the items are forwarded 
is the only bank in the place. 

DEFAULT OF CORRESPONDENTS.— The 
question whether or not a bank is liable for the de- 
fault of its correspondent or sub-agent in the collec- 
tion of an item, is one in which there is conflict of de- 
cision. Some authorities hold that the contract of a 
bank is "to do the thing" ; others that the contract is 
"to procure it to be done," and out of these funda- 
mental distinctions arise divergent views held by 
courts of last resort in the several States. The Su- 
preme Court of the United States lays down the 
general rule of law to be that "the initial bank is liable 
for such damages as had been sustained by the neg- 
ligence of its sub-agent or collecting bank." This 
rule is modified in many of the States and is as fol- 
lows: "The initial bank, if it selects as an agent one 
who is competent and worthy of trust, and transmits 
the paper to him, its duty is done, and the owner of 
the collection must look to the sub-agent for any de- 
fault of which he is guilty." 

EXPRESS AGREEMENT.— A bank may vary 
its contract by express agreement, which banks seek 
to do by printing notices on deposit tickets, or on pass 
books, to the effect that the bank assumes no responsi- 
bility for the collection of any item beyond due care 
and diligence in the selection of collecting agents, and 
that items are taken at the risk of the customer, and 



220 STANDARD BANKING 

that the bank will not be responsible for any loss 
through failure or default of the bank's agent. 

PROMPT RETURNS. — Prompt returns are 
often a matter of importance to bank customers. 
There are cases where a merchant or manufacturer 
has held a shipment of goods ordered by a customer, 
awaiting returns or advice of payment of a previous 
collection long past due, and which should have been 
either remitted for or returned unpaid. Delay in a 
case of this kind may arise from a number of causes. 
The fault may be the tardiness of the collecting bank, 
or it may be that the initial bank has sent the item by 
a circuitous route, or, perfwps, the item or its advice 
has gone astray in the mails. There are cases on 
record where banks have been held to be negligent in 
sending items for collection by an indirect route. 
The fact is that it is good business policy to forward 
items by the quickest route, or at least to adopt some 
means of getting prompt advice of payment. Some 
banks handling a large collection business attach a 
self -addressed postal card to each item which is sent 
indirectly, requesting the collecting bank to give 
prompt advice as to the payment or nonpayment of 
such item. 

CLASSES OF COLLECTIONS.— Items left 
with a bank for collection, where the items are few in 
number, are entered in the customer's bank book 
"short." It is usual to give the name of the payer, 
amount, date of maturity or sight, as the case may be, 
and whether protest or no protest. These entries are 
sometimes made in the back of the deposit book in a 



STANDARD BANKING 221 

space reserved for that purpose, or if the number of 
items is large, a separate book is generally used. At 
the time of receipt of collection items, instructions 
should be carefully noted, whether taken subject to 
protest, and in regard to delivery of bills of lading at- 
tached to drafts. If instructions are not given, they 
should be asked for. When the item has to be for- 
warded for collection, these instructions should be 
sent to the collecting bank for its guidance. Collec- 
tions naturally divide into two classes, city and 
foreign. City collections include all paper received 
from customers or from correspondent banks or busi- 
ness houses in other places, payable or collectible in 
the city or town in which the collecting bank is lo- 
cated. Foreign collections are those which must be 
sent to out-of-town correspondents to be collected. 
In a small bank the records of both city and foreign 
collections are frequently kept by the same clerk, the 
payments for notes, drafts, etc., being made to the 
receiving teller. Larger banks have separate depart- 
ments, in charge of competent heads for each class 
of items. 

OBEDIENCE TO INSTRUCTIONS. — In 
making collections care should be taken to follow the 
instructions of correspondents. This particularly ap- 
plies to the protesting of sight and time paper, and 
if the instructions are to protest, such items should be 
given to the notary whether or not there is an en- 
dorser or drawer to be held. In the absence of instruc- 
tions, paper with a drawer or endorser who would be 
released without protest, should also be protested. 



222 STANDARD BANKING 

In the event of non-payment or non-acceptance of 
collection items, if possible get reasons for such re- 
fusal and transmit the answer to your correspondent. 
A popular device is a printed slip to be returned with 
the item and containing a list of the possible reasons 
for refusal, the correct one being designated by a 
check mark. 

PRESENTMENT FOR PAYMENT. — The 
presentment of paper for payment or acceptance is 
another duty requiring due care and diligence. The 
courts hold it to be the duty of a bank which receives 
a time draft for collection to present it at once for 
acceptance, and that the bank will be liable for any 
loss which occurs from failure to perform this duty. 
In the presentment of paper for acceptance the re- 
quirement of the law seems to be more exacting than 
it is concerning paper presented for payment. In the 
first case presentment is required to be made "to the 
drawee or some person authorized to accept or refuse 
acceptance on his behalf." In the second instance, 
presentment must be made to the person primarily 
liable on the instrument, or, if he is absent or inac- 
cessible, to any person found at the place where the 
presentment is made. So in handling drafts or bills 
forwarded for acceptance the obligation seems to be 
on the bank to exhaust every reasonable means of 
locating the drawee, or his authorized agent. The 
drawee of a draft for acceptance has twenty-four 
hours in which to decide whether or not he will accept, 
and he can demand that the draft or bill be left with 
him for that length of time. 



STANDARD BANKING 223 

METHOD OF PAYMENT.— A matter requir- 
ing discretion and judgment is in the acceptance of 
uncertified checks in payment of notes and drafts, 
as after the surrender of paper to the payer the col- 
lecting bank is liable for any default in connection 
therewith. Under strict rules of law, a collecting 
bank is authorized only to receive actual money in 
payment of a collection item, but some courts have 
held the bank justified, by custom, in receiving a 
certified check, and not responsible where such check 
is dishonored. But the authority to surrender col- 
lection items in exchange for certified checks is not 
yet universally established. Regarding notes made 
payable at banks, the practice varies in different cities 
according to the rules established by Clearing House 
Associations in such places. In the absence of special 
arrangements for clearing this class of items, such 
notes should be presented at the counter of the bank 
where made payable, for payment or certification. 

BILLS OF LADING.— Where a draft with bill 
of lading attached is received for collection payable 
"on arrival of goods," or "on arrival of car," the 
practice in some well-managed banks is to make daily 
inquiry of the agents of the line by which the ship- 
ment has been made, thus securing prompt notice of 
the arrival of the goods. This course insures prompt 
presentation of the draft, thus avoiding any liability 
which might arise through any delay in its present- 
ment. In the event of paper subject to protest re- 
maining unpaid at three o'clock, and especially if 
there is reason to believe that such non-payment is 



224 STANDARD BANKING 

the result of an oversight, it is good business policy 
to notify the payers, thus giving them an opportunity 
to save their paper from protest, and thereby protect 
their good names and credit. The bank by following 
such a course may make a friend and add to its 
popularity. 

DELIVERY OF BILLS OF LADING. — A 
bank receives a time draft with bill of lading attached. 
On the acceptance of the draft, shall it deliver the 
bill of lading? Delivery of the bill of lading is, in 
most cases, the delivery of the goods which it de- 
scribes, and cases have arisen where banks have sur- 
rendered the bill of lading on the acceptance of a 
draft, and the draft has been dishonored at maturity. 
In the absence of specific or implied instructions as 
to whether or not the bill of lading is to be surren- 
dered on the acceptance of a time draft, the rule as 
given is as follows: "In the case of a time draft 
where the bill of lading runs in the name of, and by 
its terms the property covered by it to be delivered 
to, the party on whom the draft is drawn, then the 
bill of lading is to be delivered on the acceptance of 
the draft. Should the collecting bank refuse under 
these circumstances to deliver the bill of lading, then 
the maker and the endorser of the draft are released 
and the collecting bank becomes responsible for the 
amount of the draft. If, by the terms of the bill of 
lading accompanying the time draft, or if by indorse- 
ment it should appear that it did not run to the person 
on whom the draft is drawn, then it must not be 
delivered until payment of the draft." 



STANDARD BANKING 225 

EXCHANGE CHARGES.— A custom much 
more frequent in the past than now, and one which 
has always been frowned on by banks, is that of 
drawing drafts or bills payable "with exchange." By 
this means the drawer of a draft or bill seeks to have 
the drawee pay the difference in exchange between 
the places of residence of the two parties. In the past 
the question has been raised, "Does the use of these 
words on an instrument render it non-negotiable be- 
cause of uncertainty as to the amount to be paid?" 
While it has been definitely settled that the use of 
these or similar words does not impair the negotia- 
bility of an instrument, yet the better way is, if the 
drawer is to pay the exchange, to include this in the 
amount for which the draft is drawn. In collecting 
drafts of this description, in the absence of special 
instructions to demand exchange, or unless the 
amount be quite large, it is common for banks to 
ignore the matter altogether. Instead of "with ex- 
change" the form is sometimes "in exchange" or "in 
New York Exchange." In the latter case if the col- 
lecting bank is long on New York funds it usually 
makes no demand, but if it is short on such funds it 
will request a New York draft, usually receiving a 
draft issued by one of the local banks on its New York 
correspondent. 

CHARACTER OF EXCHANGE.— The drawee 
may elect, however, to pay the cost of exchange in 
cash, giving a check on his local bank, or he may 
tender in payment his own check drawn on a New 
York bank or banker, should he carry a balance in 



226 STANDARD BANKING 

that city. In respect to this last feature of the matter, 
a bank officer of long experience makes this pertinent 
comment: "If the collecting bank attempts to dis- 
criminate regarding the character of the exchange on 
New York that is offered, and raises the question 
whether or not the tendered exchange is of good re- 
pute, it may find itself in an unwelcome controversy 
with the payer, and it may, in the end, be difficult to say 
who has the right to decide upon the repute of the 
exchange tendered. This consideration, coupled with 
the question of responsibility in the acceptance of the 
kind of exchange offered, is good reason for a bank 
declining to handle paper drawn in this way. Fur- 
thermore, some courts have made a distinction be- 
tween "in exchange" and "with exchange," and in 
the former case held the paper not negotiable, because 
not payable in money but in a commodity, namely, a 
bill of exchange. This is an additional reason for de- 
clining this class of paper. 

RESTRICTIVE ENDORSEMENTS. — The 
question of endorsements is one of importance. Up 
to 1898 the restrictive form of endorsement was used 
on all items, whether taken as cash or for collection, 
the form generally reading "Pay to the order of re- 
ceiving bank for collection, for account of sending 
bank," but a case came before the courts of New York 
which materially changed this custom. It was held 
that the receiving bank of paper endorsed to it "for 
collection" was a mere agent and not responsible for 
genuineness after payment of the proceeds to its prin- 
cipal. The rule adopted by the New York Clearing 



STANDARD BANKING 227 

House and substantially followed by the other clear- 
ing house associations throughout the country, ex- 
cluding all restrictively endorsed paper unless guaran- 
teed, applies only to items collected through the ex- 
changes. Usually these items represent cash, having 
been received on deposit and credit given therefor, or 
the cash paid out at once, by the initial bank; the ex- 
ceptions being collection items pure, in the form of a 
note or an acceptance made payable at a bank, or an 
occasional check. 

RESPONSIBILITY OF WARRANT Y.— 
While the strict language of the resolution adopted 
by the New York Clearing House Association limits 
the operation of the rule to items collected through 
the exchanges, yet in all of the principal cities where 
banks are located that do collecting for other banks, 
such collecting banks have quite generally set their 
faces against restrictive endorsements, for the reason 
that they wish to be protected in any contingency 
which might arise, by the warranties that go with a 
general endorsement. Some authorities insist, how- 
ever, that a bank in acting as agent in the collection 
of items should never assume the warranties of a gen- 
eral endorser. This contention would more naturally 
appeal to country bankers, and an argument in sup- 
port of the restrictive form of endorsement is given 
briefly, as follows: "It is a settled principle of law 
that in the absence of an indication to the contrary, 
the form of the endorsement controls the title or own- 
ership to negotiable paper. The title to or ownership 
of an item left with a bank for collection remaining 



228 STANDARD BANKING 

in the customer, and the bank's relation being simply 
that of an agent, this form of endorsement gives to 
all parties through whose hands it passes, notice of 
this ownership, and that the collecting bank or its 
agents acquires no title therein." 

RIGHT OF LIEN.— Where a collecting bank 
has notice that the prior bank has no interest in an 
item transmitted for collection, and that it is acting 
merely in the capacity of an agent, the collecting bank 
cannot under any circumstances retain the proceeds 
as against the true owner. But where the collecting 
bank has no such notice, and the prior bank is in- 
debted to it in general balance, in the event of the 
failure of the prior bank, it is generally held that the 
collecting bank can hold the proceeds of a collection 
against the true owner. The right of lien rests upon 
the further consideration that in the case of negotiable 
paper, one who successfully enforces a lien must be 
a holder for value and without notice. In most of the 
States, in fact, in all of the States which have adopted 
the negotiable instrument law (Wisconsin excepted), 
an antecedent or pre-existing debt constitutes value. 
The qualifications without notice expressed in full is 
"without notice of equities existing between prior 
parties." 

CITY COLLECTION RECORDS.— The note 
teller frequently has charge of city collections, making 
the records as well as receiving payment for these 
collections. Time paper is entered in the "City Col- 
lection Register," a book of convenient size, in which 
are entered in columns appropriate to the purpose, 



STANDARD BANKING 229 

(1) the number of the item given by the collecting 
bank, (2) the name of the payer, (3) due date or sight, 
as the case may be, (4) sender's number, (5) name of 
party or bank for which the account is collected, (6) 
the amount, and (7) the explanation column. In this 
last column may be entered "Protest" or "No Pro- 
test," as the case may be, and the final disposition of 
the item. These entries follow each other across the 
paper on a single line. Such columnar headings are 
simply typical. The other principal book used is the 
"City Collection Tickler." This book is divided into 
spaces for each day of the month for the twelve 
months of the year or longer. The record in this book 
under the proper due date of each item is (1) the num- 
ber of the item given by the collecting bank, (2) the 
name of payer and (3) the amount. These items are 
then arranged in a wallet according to maturities. 
When city collection items fall due, the note teller 
makes a record of the name of the account to be 
credited with the proceeds thereof, together with the 
name of payer and amount. Sight items received the 
same day are recorded in the same way and given to 
the messenger or runner to present and collect. At 
the close of the day's work this record shows the dis- 
position made of an item, whether paid, returned or 
protested, and is the medium through which credit 
is given for collections paid. The modern transit 
manager, in order that his department may function 
to the fullest extent, should know how to develop the 
collection of out-of-town checks at the least cost and 
with greatest possible despatch, and also to use care 



230 STANDARD BANKING 

and judgment in the selection of satisfactory corre- 
spondents that will efficiently handle the items for- 
warded to them for collection; he must have a good 
knowledge of transportation routes and also of the 
Federal Reserve inter-district collection system; and, 
further, he must at all times keep himself posted upon 
matters pertaining to changes in the methods of col- 
lection of checks. 

Foreign Collections 

TRANSIT DEPARTMENTS.— The transit de- 
partment of a bank receives its name from the class of 
items it handles. Transit items are those drawn on 
other points which have been received as cash and 
must be collected through the mails. Such collections 
are otherwise known as "foreign items" and "collec- 
tion items." The value of the term "transit items" is 
manifest, as it draws a sharp distinction between 
items that have been credited to a customer's account 
upon receipt, and those that are taken for "collection 
only" subject to final payment. In this latter men- 
tioned class are truly "collection items," being those 
taken by the bank solely to be forwarded for pay- 
ment, and not credited to parties from whom received 
until actually collected. Then again, the term 
"foreign items" may be a sufficient distinction for 
such items in a small town or city other than those 
dealing in foreign trade. In such banks, however, 
this term would be confusing. Bills of exchange, 
checks that are drawn on points abroad, etc., are gen- 
erally termed "foreign items." The foregoing distinc- 



STANDARD BANKING 231 

tion is made because of the use of the term "transit 
department/' which, while in use for several years, has 
not yet been universally adopted. Its value, however, 
is apparent. 

FOREIGN COLLECTION RECORDS. — In 
the foreign collection department there are several 
general methods of keeping the record of out-of-town 
items sent to correspondent banks for collection. 
Whatever the method, however, the common aim is, 
upon the advice of payment of a given item, to readily 
locate the name of the party or bank for whose 
account the collection has been made, so that credit 
can be given without delay, and the work of the 
department carried on with dispatch. Some banks 
use the "Foreign Collection Register." The descrip- 
tion of the "City Collection Register" will fit this book 
if we add a few columns, one for the name of the bank 
to which sent, one for the name of the place where 
payable, and columns with the headings "When 
Received" and "When Sent." The numbers given to 
items by the sending bank appear on the foreign col- 
lection register in consecutive order, and where this 
system is used the numbers play a most important 
part, correspondents being requested to advise pay- 
ment by number. For this purpose a printed slip is 
usually attached to the item to be collected. Some 
banks use the method just described for miscellaneous 
collections, while for a regular correspondent the 
items for such correspondents are entered under a 
separate heading, the register being spaced off as a 
ledger would be, with a number of pages for each col- 



232 STANDARD BANKING 

lecting bank. In some banks no books are used. The 
entire record is made and the appropriate credits and 
charges in other departments are given through the 
use of slips. A white slip is used for credits and a pink 
one for charges, each showing the name of the payer, 
where payable, the due date and the date sent. (See 
Fig. 9.) 

GOLD SETTLEMENT FUND.— Sections 13 
and 16 of the Federal Reserve Act provide that Fed- 
eral Reserve banks shall receive on deposit from their 
respective members, and from other Federal Reserve 
banks, checks and drafts drawn upon any member of 
a Federal Reserve bank or upon any Federal Reserve 
bank, and further, that the Federal Reserve Board 
may require the Federal Reserve banks to perform the 
functions of a Clearing House. The Federal Reserve 
System also provides that the Federal Reserve Banks, 
under the par collection system, may receive checks 
and other items for collection from any non-member 
bank that agrees to keep on deposit with the Federal 
Reserve Bank of the district a sum sufficient to cover 
outstanding items. The Federal Reserve Board 
under authority conferred by these two sections, 
has established a plan of clearing and settlement of 
balances through a central fund in the hands of the 
Federal Reserve Board at Washington, D. C, known 
as the "Gold Settlement Fund." When this plan was 
established, every Federal Reserve bank was required 
to deposit with the Federal Reserve Board gold or 
United States gold certificates of one million dollars 
in excess of the net balances then due from it to other 



STANDARD BANKING 233 

Federal Reserve banks. Each Federal Reserve bank 
carries on its books, in its relations with each of the 
other Federal Reserve banks, two accounts, "Due To" 
and "Due From," also an account known as the "Gold 
Settlement Fund Account," and at the close of busi- 
ness each day wires to the Federal Reserve Board 
advice as to the amount then "Due To" and "Due 
From" each of the other Federal Reserve banks. The 
Board tabulates the balances so reported and effects 
a clearing, using the telegraphic advices as a basis, and 
upon the same principle as that followed by regular 
Clearing Houses in making their daily exchanges. 
The net balances arising from such clearings are set- 
tled by book entries in the gold settlement fund 
account. Theoretically transfers are made of certifi- 
cates representing the amounts of the balances 
involved. After each clearing the Federal Reserve 
Board advises each Federal Reserve bank by wire as 
to the results. These telegraphic advices serve as 
authority for making entries against the accounts. 
All telegrams are sent over private wires and are con- 
firmed by official advices through the mails. The 
plan obviates the necessity of transferring immense 
sums of gold and other lawful money. The balances 
resulting from the clearings average less than 7% of 
the amount cleared. 

COLLECTION BY FEDERAL RESERVE 
BANKS.— Prior to July 15, 1916, the Federal Reserve 
banks operated clearing or collection departments 
through which checks and drafts on certain members 
and on the Federal Reserve banks werr handled. 



234 STANDARD BANKING 

These departments were operated under rules which 
varied widely. In one district, items not bearing the 
endorsement of any bank located outside of that dis- 
trict were taken for immediate credit, at par, when 
drawn upon a member bank or a Federal Reserve 
bank. In other districts, items were taken when 
drawn upon member banks that had, through vote of 
their respective boards of directors, agreed to main- 
tain with their Federal Reserve bank balances in ex- 
cess of their required reserves in sufficient amount to 
cover such items, and further, to permit their Federal 
Reserve bank to debit such member banks' accounts 
with the amounts of the items on the day they are 
received by the Federal Reserve bank. Some of the 
Federal Reserve banks took the position that the law 
did not contemplate that they should actually clear 
or collect a large volume of items, but that they should 
serve only as regulators of exchange. 

FEDERAL RESERVE PAR COLLECTION 
PLAN. — Aside from the knowledge and experience 
gained, little was accomplished through these opera- 
tions up to July 15, 1916. On that day, under orders 
from the Federal Reserve Board, a practically uni- 
form plan of clearing and collection was established 
in all the Federal Reserve banks. Under this plan 
each Federal Reserve bank operates a clearing or col- 
lection department. 

CLASSES OF CORRESPONDENTS.— Corre- 
spondents to whom transit items are sent may be 
divided into three classes: (1) Banks with which the 
sending bank has accounts, such as those in reserve 



STANDARD BANKING 235 

cities; (2) those that have accounts with the sending 
bank; (3) those banks in towns where the sending 
bank sends items for payment by remittance. The 
first-mentioned accounts are mostly general-ledger 
accounts, banks which the sending bank would draw 
on. The second class are those whose accounts are 
kept on the "Banks and Bankers" ledger. They are 
credited with what they send and debited with what 
they would draw on the sending bank. The third 
class of correspondents are those with which the 
sending bank has really the most to do. The transit 
department will, therefore, if in a large city, receive 
the greatest portion of its work from its bank 
accounts. They will send in by far the greatest num- 
ber of transit items. The next largest supply will be 
received from individual depositors, and the other 
items will be picked up from the various departments 
of the bank in comparatively small numbers. In a 
country bank, however, conditions are just the oppo- 
site. The larger number of outside items would be 
received from depositors, as its bank customers would 
be fewer. 

UNIVERSAL NUMERICAL SYSTEM.— The 
Clearing House Section of the American Bankers 
Association has devised a numerical system which 
simplifies transit work. Numbers from one to forty- 
nine, inclusive, are used to designate the reserve 
cities, each city being provided with a number of its 
own to be used as a prefix in numbering the banks in 
these cities. The Clearing House numbers in each 
of the cities are used to designate the Clearing House 



236 STANDARD BANKING 

banks and additional numbers provided for banks 
which have no Clearing House numbers. Numbers 
from fifty to ninety-nine, inclusive, are used to desig- 
nate States. The State numbers are used as a prefix 
for numbering banks which are located outside of the 
forty-nine cities already provided for. In numbering 
the reserve cities Brooklyn is included with New 
York City; Kansas City, Kans., with Kansas City, 
Mo., and South Omaha with Omaha. As there are 
fifty reserve cities this left two numbers not used. 
These numbers have been given to Buffalo and Mem- 
phis. Buffalo was selected because it was the tenth 
city in population and by giving Buffalo a number of 
its own the Clearing House numbers can be used for 
Rochester, whose population was 218,000, the next 
largest city in the State. Memphis was selected owing 
to the scarcity of reserve cities in the South and on 
account of its importance as a collecting center and 
also to permit the use of Clearing House numbers 
for Nashville, with a population of 110,000, the next 
largest city in the State, and which is also an impor- 
tant collecting center. 

METHOD OF NUMBERING.— The forty-nine 
cities have been numbered according to population as 
shown by the census of 1910, so that the largest cities 
have the small numbers. This plan reduces the labor 
of registering items in the transit department to a 
minimum as a large proportion of items are drawn 
on these cities. For example, a certain New York 
bank may be designated 1-8, a Chicago bank 2-1, a 
Philadelphia bank 3-39. Thus every bank in the 



STANDARD BANKING 237 

United States is assigned a distinctive number, the 
prefix denoting the geographical location and the sec- 
ond or suffix number denoting the name of the bank. 
These numbers, read directly from the face of the 
check or endorsement stamp, are substituted for 
names and adresses in making transit or other rec- 
ords. The extent to which the numbers may thus 
be used is a matter for each individual bank to deter- 
mine for itself in accordance with its accounting sys- 
tem. It is imperative, however, that all checks, drafts 
and endorsement stamps should show the numbers, 
so that every bank that cares to do so can make use 
of this time and labor-saving system. 

CLEARING HOUSE NUMBERS.— By the use 
of individual numbers for the forty-nine cities the 
banks in forty-eight other cities can be designated 
by their Clearing House numbers. For instance, in 
New York State three cities have been given numbers 
of their own, namely, New York No. 1, Buffalo No. 10 
and Albany No. 29. The next city in the State, 
according to population, is Rochester, which is the 
first city numbered with the State prefix, which is 
number fifty. The Rochester banks are numbered 
50-1, 50-2, etc. The system, therefore, permits the use 
of Clearing House numbers to designate banks in 
ninety-seven of the principal cities of the country. 
The Treasurer and Assistant Treasurers of the 
United States and the postoffices in the reserve cities 
have been given numbers. Numbers have not been 
provided for express companies, railroads or mercan- 
tile firms. 



238 STANDARD BANKING 

STATE NUMBERS.— The State numbers have 
been divided into five sections as follows : 

Eastern 50 to 58 

South Eastern 60 to 69 

Central 70 to 79 

South Western 80 to 88 

Western 90 to 99 

The States containing the principal collecting 
centers, namely, New York, Pennsylvania, Illinois, 
Missouri and California, have been given the first 
numbers in their respective sections: 50-60-70-80-90, 
to facilitate the listing of items on adding machines, as 
only one key is used to print these numbers, and also 
to indicate that the following nine numbers in each 
section represent the States in the same territory. 
Numbers 59 and 89 are left blank and can be used in 
the future should it become necessary to number the 
banks in our Island possessions and Alaska. The 
system of numbering the States in groups according 
to territory should also prove to be of advantage in 
memorizing the State numbers. With the exception 
of five States representing each section the States are 
numbered in alphabetical order in each section. 

NUMBERS DESIGNATED.— The numbers of 
the different cities and States are as follows : 

CITIES 

1. New York City. 7. Baltimore, Md. 

2. Chicago, 111. 8. Pittsburgh, Pa. 

3. Philadelphia, Pa. 9. Detroit, Mich. 

4. St. Louis, Mo. 10. Buffalo, N. Y. 

5. Boston, Mass. 11. San Francisco, Cal. 

6. Cleveland, O. 12. Milwaukee, Wis. 



STANDARD BANKING 



239 



13. 


Cincinnati, O. 


32. 


Dallas, Tex. 


14. 


New Orleans, La. 


33. 


Des Moines, la. 


15. 


Washington, D. C. 


34. 


Tacoma, Wash. 


16. 


Los Angeles, Cal. 


35. 


Houston, Tex. 


17. 


Minneapolis, Minn. 


36. 


St. Joseph, Mo. 


18. 


Kansas City, Mo. 


37. 


Ft. Worth, Tex. 


19. 


Seattle, Wash. 


38. 


Savannah, Ga. 


20. 


Indianapolis, Ind. 


39. 


Oklahoma City, Okla 


21. 


Louisville, Ky. 


40. 


Wichita, Kans. 


22. 


St. Paul, Minn. 


41. 


Sioux City, la. 


23. 


Denver, Colo. 


42. 


Pueblo, Colo. 


24. 


Portland, Ore. 


43. 


Lincoln, Neb. 


25. 


Columbus, O. 


44. 


Topeka, Kans. 


26. 


Memphis, Tenn. 


45. 


Dubuque, la. 


27. 


Omaha, Neb. 


46. 


Galveston, Tex. 


28. 


Spokane, Wash. 


47. 


Cedar Rapids, la. 


29. 


Albany, N. Y. 


48. 


Waco, Tex. 


30. 


San Antonio, Tex. 


49. 


Muskogee, Okla. 


31. 


Salt Lake City, Utah. 








STATES 




50. 


New York 


72. 


Iowa 


51. 


Connecticut 


73. 


Kentucky 


52. 


Maine 


74. 


Michigan 


53. 


Massachusetts 


75. 


Minnesota 


54. 


New Hampshire 


76. 


Nebraska 


55. 


New Jersey 


77. 


N. Dakota 


56. 


Ohio 


78. 


S. Dakota 


57. 


Rhode Island 


79. 


Wisconsin 


58. 


Vermont 


80. 


Missouri 


59. 




81. 


Arkansas 


60. 


Pennsylvania 


82. 


Colorado 


61. 


Alabama 


83. 


Kansas 


62. 


Delaware 


84. 


Louisiana 


63. 


Florida 


85. 


Mississippi 


64. 


Georgia 


86. 


Oklahoma 


65. 


Maryland 


87. 


Tennessee 


66. 


N. Carolina 


88. 


Texas 


67. 


S. Carolina 


89. 




68. 


Virginia 


90. 


California 


69. 


W. Virginia 


91. 


Arizona 


70. 


Illinois 


92. 


Idaho 


71. 


Indiana 


93. 


Montana 



240 STANDARD BANKING 

94. Nevada 97. Utah 

95. New Mexico 98. Washington 

96. Oregon 99. Wyoming 

SUBSEQUENT NUMBERING.— Numbers are 
provided for all of the banks in the forty-nine num- 
bered cities and also in the forty-eight other cities 
showing the numbers for the first city in each State 
numbered with the State prefix. The remaining banks 
of the country are to be numbered according to the 
following plan : The first numbers to be given to the 
banks in the largest cities and to be continued in the 
relative order of the population of the cities in each 
State. Each bank to be numbered in consecutive 
order according to seniority in each city. When there 
is only one bank in a town the banks are to be num- 
bered in alphabetical order according to towns, the 
one-bank towns to be numbered last. Blank numbers 
are to be left only in cities of 5,000 population and 
over. The blank numbers to be left as follows: Popu- 
lation of 5,000 to 25,000, two blank numbers; 25,000 
to 50,000, three blank numbers; 50,000 to 100,000, five 
blank numbers; 100,000 and over, six blank numbers. 

NO-PROTEST INSTRUCTIONS.— The 
Clearing House Section of the American Bankers 
Association has devised an improved plan of con- 
veying "No-Protest" instructions. Any bank that 
receives from its customer — corporation, firm, indi- 
vidual or bank — a check or draft on a bank which it 
desires to have handled as a "No-Protest" item can 
convey such instructions through several interme- 
diate banks to the final paying bank by means of an 




STANDARD BANKING 



241 



inexpensive rubber stamp. To do this an impression 
of the stamp should be made on the face, and as near 
the right-hand end of the item as is possible. The 
stamp should be V2 X % °* an mc ^ in size, and should 
contain the letters "N. P." and the universal numer- 
ical transit number of the bank, and should be of the 
following design: 




The instructions on the cash letter accompanying 
the item should include the following : 



N. P. 
83-164 



Protest all items over $20, not bearing this 
stamp or similar stamp containing transit 
number of a preceding bank endorser. 



The teller will place an imprint of such stamp on 
every item of over $20 that passes through his depart- 
ment and which is to be handled as "No-Protest." 
When this plan is in complete operation the clerks 
who handle the incoming and outgoing mail in subse- 
quent banks will be relieved from examining carefully 
such items, and comparing the items with the letters 
in order to determine what items are to be treated as 
"No-Protest." If the cash letters read as above indi- 
cated the instructions will be automatically conveyed. 
Some banks may for their own convenience want to 
continue the practice of making a special record on 



242 STANDARD BANKING 

their outgoing cash letters as to what items are to be 
handled as "No-Protest." This may be done by plac- 
ing the letters "N. P." or such other notations as are 
satisfactory either to the right or left of the amounts 
of the items to which they apply. A somewhat simi- 
lar stamp has been devised for telegraph non-payment 
of any item consisting of a divided circle 24-inch in 
diameter, within the circumference of which are 
inscribed the words, "Telegraph Non-Payment," and 
in the center of which appears the transit number of 
the bank, banker or trust company issuing such 
instructions. When this symbol is used the impres- 
sion should be made in a conspicuous place on the face 
of the item. The instructions on the cash letter accom- 
panying the item should include the following : 

Telegraph non-payment on items of $500 or 
over bearing this stamp or similar stamp con- 
taining the transit number of a preceding bank 
endorser. 

The use of this symbol eliminates the inconve- 
nience so often caused by tags and slips pinned or 
loosely attached to items and will at the same time 
prove of inestimable value in facilitating the handling 
of such items. 

Clearing Houses 

The idea of the Clearing House, like many other 
important inventions and scientific discoveries, had 
its origin in an accidental way. In the early seven- 
ties of the eighteenth century, the banks of the 
City of London, England, employed walk clerks, or 



STANDARD BANKING 243 

runners, as they would be termed in this country, 
whose duties were to go from bank to bank and col- 
lect the actual cash to cover checks, drafts and credits 
of a like nature that accumulated in the day's business. 
Two of these boys, representing banks located in 
opposite sections of the City of London, met in a 
downtown coffee house, and while visiting and lunch- 
ing together discovered that each held a like amount 
of checks and drafts against the other's bank. The 
thought of trading these checks and drafts, thereby 
saving themselves a trip half-way across the city, 
suggested itself to these young men. They not only 
traded, but agreed to meet in the same place on the 
following day for the purpose of again trading. The 
news of what these two boys were doing spread to 
the other collectors, and within a very short while 
practically all of the collectors of the banks of the 
City of London were meeting in this coffee house, and 
making trades daily and paying cash to cover the dif- 
ferences. Some of the officers of the banks of London, 
on hearing what these boys were doing, criticized 
them severely. Others saw merit in the idea, and it 
resulted in a conference at which it was agreed to hire 
a room in the down-town section, where the boys 
might meet each day and trade checks and drafts. 
Errors resulting from these trades made it necessary 
to install a system of records, and to place a man in 
charge ; and from that developed the London Clearing 
House, which is one of the largest, if not the largest, 
Clearing House in the world. The idea came to 
America in the year 1853, at which time the New 



244 STANDARD BANKING 

York City Clearing House was established. It was 
later taken up by Boston, Pittsburgh, Philadelphia, 
Chicago and drifted on westward to the Coast; and 
now every city of any size or commercial importance 
has a Clearing House of some description. 

CLEARING HOUSE FUNCTIONS. — T h e 
rapid development in all lines of industry, and the 
great growth of financial affairs throughout the 
country, have made further cooperation necessary, 
and as a result many additional functions have been 
taken on by Clearing Houses. The objects and pur- 
poses of a modern Clearing House Association may 
be stated as follows : 

(1) To facilitate the handling of business be- 
tween its members. 

(2) To facilitate the handling of business be- 
tween these institutions and banks and trust compa- 
nies of other localities. 

(3) To foster and encourage conservative, safe 
and sound banking methods and banking practices. 

(4) To use its influence in matters of common 
interest to its members, and for the general good of 
the community wherein it is located. 

(5) To perform such other services as are agreed 
upon by its members and which are not in contraven- 
tion of Federal or State laws. 

The performance of such functions is generally 
undertaken through three separate departments, 
namely, (1) the City Department, (2) the Country 
Department and (3) the Examination Department. 

CITY DEPARTMENT.— The original func- 



STANDARD BANKING 245 

tions of the Clearing House, namely, the exchange of 
items and settlement of resulting balances, are con- 
ducted through what is commonly termed "The City 
Department." On organizing a Clearing House, each 
member is given a number, under which its business 
is transacted. These numbers are generally assigned 
on the seniority basis — the oldest bank member being 
assigned No. 1, the second oldest No. 2 and so on. 
When a new member is taken in it is given the next 
highest number not in use. Each member maintains 
in its office a department known as its Clearing House 
Department, and to which is charged by the several 
departments all items drawn on or payable at the 
offices of the other members. These items are usually 
recorded in the department where they originate and 
on reaching the Clearing House Department are in- 
spected as to signature, dates, etc., and are endorsed 
with a rubber stamp, showing the name and Clearing 
House number of the clearing bank and the date of 
clearing. They are next sorted — all items drawn on 
or payable at the office of each member being placed 
in a separate pile. When the sorting is completed and 
the clearing hour approaches, each pile of checks is 
taken to an adding machine and a list thereof is made 
and a total is taken. The items are then done up 
into packages, the list covering each package being 
placed on its face, and the Clearing House numbers 
of the members on which the items are to be cleared 
are marked on the respective packages with pen or 
pencil. The lists on the packages are indorsed with 
the regular Clearing House indorsement stamp. The 



246 STANDARD BANKING 

packages are then sealed or bound up with rubber 
bands. 

CLEARING HOUSE STATEMENTS.— Each 
member is supplied by the Clearing House with state- 
ment blanks which are in duplicate form and which 
show at the top the name and number of the member 
using the same. The blanks used in different places 
are not uniform, but essential features are indicated 
in the accompanying illustration. Along the left mar- 
gin of each statement appears, in regular order, the 
names and numbers of all the members. Immediately 
to the right of these names and numbers are several 
columns, the two principal ones of which are headed 
"On Clearing House" and "From Clearing House." 
The total shown on each package of items is entered 
in the column "On Clearing House" and di- 
rectly opposite the name and number of the bank 
on which the items are to be cleared. When all totals 
have been entered, the statement is footed, and if 
the work has been correctly done the footings thus 
obtained will prove against the combined total of all 
charges made by the several departments to the Clear- 
ing House Department. Assuming they do so prove, 
the packages are placed in a satchel or chest and the 
Clearing House Clerk and messenger take the satchel 
or chest and statement and make a mad rush to the 
Clearing House. The reason for this rush is that the 
clearing hour is fixed,, and any member not repre- 
sented at that hour is fined ; and if tardy over a certain 
number of minutes, the member is shut out of the 
clearing for the day. 



STANDARD BANKING 247 

METHOD OF MAKING EXCHANGES.— The 

exchange room at the Clearing House is equipped 
with a cage or desk for each member, and a manager's 
desk. The cages are usually arranged in parallel rows 
and in numerical order with reference to the numbers 
of the members. On arrival at the Clearing House the 
clerks enter their respective cages and the messengers 
pass around and deposit their packages of items — 
packages No. 1 being deposited in cage No. 1, packages 
No. 2 in cage No. 2, and so on down the line. When 
all clerks and messengers have arrived at the Clearing 
House and all deposits have been made, each clerk 
has on his desk a package of items from each member, 
and he enters on his statement in the column headed 
"From Clearing House" and opposite the respective 
names and numbers of the members the amount 
shown on the package received from each. The 
packages when thus entered are dropped into a 
receptacle from which they are taken by the messen- 
gers, who rush back to the banks so that the items 
may be quickly distributed to the bookkeepers, who 
pass upon the genuineness of signatures, etc., all items 
being cleared subject to being returned at a certain 
hour if found not good for any reason. Each clerk 
foots his statement when all totals have been entered, 
and if he finds he brought a greater volume to the 
Clearing House than he received from the members 
he carries his "From Clearing House" footings to his 
"On Clearing House" column and makes his deduc- 
tion, showing the amount due his bank from the 
Clearing House, or his credit balance, as it is termed. 



248 STANDARD BANKING 

Should the amount received at the Clearing House 
exceed the amount brought to the Clearing House, the 
operation would be the reverse, and he would show 
the amount due the Clearing House, or his debit 
balance. A duplicate of each statement is passed to 
the manager, who enters on the Clearing House rec- 
ords the net debit and credit balances and the "On 
Clearing House" and "From Clearing House" totals. 
He then foots the balances and if they prove the clerks 
are dismissed and return to their respective banks. 
The statements are filed as a record of the transac- 
tions between the several members, and the manager 
foots the "On" and "From" Clearing House columns; 
and if they agree it is conclusive evidence that the 
work has been correctly done. The "On Clearing 
House" column represents the items brought to the 
Clearing House and are the figures that are reported 
in the newspapers and financial journals as the bank 
clearings. Where an average of ten millions of dollars 
worth of items are cleared daily the resulting balances 
run about six hundred thousand dollars; so by the 
operation the amount of cash necessary to handle ten 
millions of dollars' worth of business is reduced from 
ten millions of dollars to six hundred thousand dollars. 
MANNER OF SETTLING BALANCES.— 
Perhaps the most scientific way of settling balances 
is the method used by the New York Clearing House. 
After the exchanges have been made, balances struck 
and footing proved, the manager forwards a certified 
copy of the statement daily to the Federal Reserve 
Bank, where the balances of the member banks' ac- 



STANDARD BANKING 249 

counts are adjusted in accordance with the statement 
rendered. After this has been accomplished, the 
certified copy is returned to the manager of the 
Clearing House duly signed by an officer of the Fed- 
eral Reserve Bank and the transaction is completed. 
The banking law in some States has been amended to 
allow non-member state institutions to keep a cer- 
tain portion of their legal reserve requirements 
with the Federal Reserve Bank, for the purpose of 
settling clearing-house balances. This method, of 
course, can only be operative where Federal Reserve 
banks or their branches are located, but the simplicity 
and efficiency of the method can readily be seen. To 
encourage promptness, care and accuracy on the 
part of clerks, fines are imposed for errors in 
lists, wrong clearings, missing indorsements, errors 
in statements, misconduct, etc.. These fines range 
from ten cents to five dollars, and are assessed 
against banks whose representatives are the offend- 
ers. The proceeds usually go toward defraying 
the general expenses of the Association. To get an 
idea of the convenience and saving that result from 
the daily exchanges at the Clearing House one need 
only to consider the number of clerks that would be 
required to go from bank to bank and collect and 
handle the actual cash represented by ten millions of 
dollars' worth of items, then compare that process 
with the clearing of a like amount of items and the 
settlement of balances resulting therefrom. 

GENERAL CLEARING HOUSE FUNC- 
TION. — One of the important functions of the City 



250 STANDARD BANKING 

Department has been the issuance of loan certificates 
and scrip during times of stringency, but with the 
passage of the Federal Reserve Act it is hoped that 
this function is forever eliminated. It was by co-oper- 
ation through this department, that the banks of 
New York, Philadelphia and Boston were able to 
protect the credit of the nation during the early years 
of its existence. The City Department, or in the 
larger clearing house associations, the clearing house 
committee, handles the general business of the Asso- 
ciation. It is of a legislative and administrative char- 
acter. Through it rules and regulations regarding 
exchange and collection charges and interest rates 
allowed on balances are formulated and enforced.' 
It provides for uniform counter checks, uniform ad- 
vertising, service charges, and looks after matters of 
common interest to the member banks, and the gen- 
eral good of the community. Small banks that do not 
feel justified in joining the Clearing House arrange 
with some member to act as their agent and to clear 
for them, for which they pay a small fee to the Clear- 
ing House. 

CLEARING HOUSE EXAMINATIONS.— 
Clearing House examinations include, in addition to 
verification of the assets and liabilities of the bank, a 
thorough examination into the workings of every 
department. They are not intended to be a careful 
audit of all the accounts. That is left to the bank's 
own auditor and to special auditors who are called in 
from time to time. Following each examination a 
duplicate detailed report is made, giving a description 



STANDARD BANKING 251 

of the loans, bonds, investments, and other assets. 
This report shows, under a special schedule, loans 
both direct and indirect, to officers, directors and 
other employees, as well as to firms and corporations 
in which they may be interested. It further covers the 
conditions that are found in every department of the 
bank. One copy of this detailed report is filed at the 
Clearing House, and is open to the examiner and 
manager only, except in special instances where it is 
necessary that it be brought before the Clearing 
House Committee. The other copy is filed with the 
President of the bank examined, and the directors 
are notified and requested to call at the office of the 
President and inspect the report. The examiner re- 
quires an acknowledgment of this notice from each 
director, with a promise on the part of the director to 
call and go over the report. This encourages closer 
attention to the bank's affairs, and makes certain that 
every director has opportunity of knowing the bank's 
true condition. A skeleton of this report, setting 
forth in a general way the character of the bank's 
assets, and giving a list of the loans to employees, 
officers and directors, and to firms and corporations 
in which they may be interested — also giving a special 
schedule of all of the excessive and important loans, 
and making mention of the irregularities, bad condi- 
tions and dangerous tendencies and practices that 
exist in the institution — is brought before the Clear- 
ing House Committee by the examiner. The Clearing 
House Committee goes over the report carefully and 
considers fully the examiner's views and recommenda- 



252 STANDARD BANKING 

tions. Then the committee calls in the managing 
officer of the bank examined, and gives him the benefit 
of these views, and makes such suggestions as may 
seem expedient. The advice of the committee is gen- 
erally heeded, and whatever the trouble may be, it is 
corrected. Lack of respect for suggestions from the 
Clearing House Committee may result in the dismissal 
of the offending bank from membership in the Asso- 
ciation. 



CHAPTER VI 



Loans and Discounts 

LOANS AND DISCOUNTS are based upon the 
* same principles of credit, regardless of the 
amounts involved or the size or location of in- 
stitutions where they are made. The word "discount" 
as used in banking refers to interest deducted or col- 
lected in advance. While the word "loan" is a word 
of broader meaning than "discount," as the terms are 
generally defined in dictionaries, banking practice has 
resulted in the application of the word "discount" to 
practically all loans to customers on commercial pa- 
per, and the term "loan" is generally restricted to de- 
mand and time loans secured by collateral. The Na- 
tional Bank Act and the laws of most States restrict 
loans to be made by any bank to any one individual or 
interest to a limited amount of the bank's capital. The 
idea of such limitation is that loans should not only 
be presumably secure in themselves, but that the addi- 
tional safety of the law of averages should be applied 
to all. In other words, no bank should be permitted 
to put too many eggs in one basket. Perhaps the 
worst weakness that any banker can possess is lack 
of ability to clearly distinguish between his own 
money and the money of his depositors. Such dis- 
crimination requires something more than conscience. 
It requires appreciation of difference betweeen tan- 
gible and intangible assets, between crops and land, 

253 



254 STANDARD BANKING 

between manufactured products and manufacturing 
plants, between commercial credit and invested capi- 
tal, between lending money and going into partner- 
ship. Whatever may be proper transactions for sav- 
ings banks and trust companies, it is the sole province 
of commercial banking to bridge over the period be- 
tween seedtime and harvest, to facilitate the trans- 
formation of raw material into finished products and 
to provide the connecting link between mercantile 
sales and collections. It is not the province of com- 
mercial banking to own mortgages on farms, however 
fertile ; to be partners through overloans or otherwise 
in manufacturing and merchandising, however profit- 
able ; or to control mines, however rich. There should 
be clear distinction between banking and promotion. 
Both are useful and honorable, and both are harm- 
less when kept apart, but when mixed they make an 
explosion. Disaster follows defiance of this inexora- 
ble law of financial chemistry. 

LIQUIDNESS OF ASSETS.— Liquidness of 
assets enables a bank to meet the actual needs of its 
depositors for money and also by giving confidence 
serves to limit withdrawals to actual needs. This is 
with most people, and properly should be, the funda- 
mental basis for confidence in a bank. To serve the 
purposes just mentioned the same degree of liquidness 
in all assets is not required. Immediate convertibility 
into cash of a portion of the assets of a bank is suffi- 
cient for the building up of reserves depleted on ac- 
count of unusually large requirements on the part of 
depositors, or even for the exceptional contingency 



STANDARD BANKING 255 

of a run upon the bank. Experience shows that a 
bank all of whose assets can be converted into cash 
within a few months without loss is altogether un- 
likely to be disturbed by lack of confidence, and should 
it be subjected to unfounded rumors no difficulty is 
experienced in securing the necessary funds from 
other banks. I 

LINES OF CREDIT.— The investments which 
best meet the peculiar requirements of commercial 
banks are loans payable either on demand or within 
a few months, seldom more than six months. With 
a reasonably large number of short time loans, so se- 
lected that some of them will be maturing daily or at 
least nearly every day, and all of them within a six 
months period, it might seem at first sight that if a 
bank adopted the simple means of refraining from 
making new loans, the payment of these loans would 
automatically provide a bank with funds to meet all 
ordinary requirements. But the problem which con- 
fronts the banker is not of this simple character, be- 
cause there are other considerations which must be 
given weight in handling the loan account of a bank. 
If a bank is to continue as a going concern engaged in 
profitable business it cannot entirely discontinue the 
making of loans. It holds its business depositors 
largely through its readiness at all times to furnish 
them a reasonable amount of accommodation. With- 
in limits of safety determined by the character of the 
depositor, the nature of his business, the size of his 
account and the size of the bank, lines of credit have 
been agreed upon. These agreements clearly place a 



256 STANDARD BANKING 

part of the lending power and consequently a part of 
the assets of the bank outside the field of practical 
every day liquidness. For a bank regarded as a going 
concern, therefore, a considerable proportion of its 
resources are unavailable as a means of strengthen- 
ing itself for the purpose of meeting ordinary require- 
ments. Further, unless borrowers have in general al- 
ready fully utilized their lines of credit, the bank is 
subject to the possibility of additional demands for 
accommodation, which it cannot refuse to grant, and 
which may come just at a time when it is meeting un- 
usually heavy payments to depositors either directly or 
through unfavorable balances with other banks. Even 
in periods of acute monetary stringency it must be 
prepared to create new deposit liabilities by making 
new loans. Striking instances are found in the case 
of those banks which have accounts of stock brokers 
who ordinarily borrow on the market, or of business 
firms which place their paper with many banks 
through note brokers. It is a common practice, and 
one dictated by sound business policy, for such bor- 
rowers not to borrow from their own banks. Lines 
of credit are kept open to fall back upon when, as may 
happen, it becomes difficult, if not impossible, to bor- 
row in the open market. The borrower has thus an 
anchor to windward. But, on the other hand, banks 
that have such accounts have incurred obligations to 
extend credit just when it may be most inconvenient 
for them to do so. 

LIQUIDNESS OF LOANS TO DEPOSI- 
TORS. — Clearly then a bank should have assets more 



STANDARD BANKING 257 

liquid than its loans to its own clientele of business 
depositors. The conclusion should not be drawn, 
however, that the loans made to such regular custom- 
ers need not possess the quality of liquidness. The 
analysis in the preceding paragraph was concerned 
altogether with these loans taken as a class. The in- 
dividual loans within this class must be liquid to en- 
able a bank to extricate itself from threatened failure 
or suspension, contingencies which would inconveni- 
ence borrowers far more than the refusal to allow 
them accommodation agreed upon under lines of 
credit. Moreover, there is another and even more 
important reason for insisting upon liquidness in the 
case of these loans. A large part of the loans made 
by banks is based upon personal security alone, prom- 
issory notes with or without indorsements. The un- 
derlying security rests largely upon the uses made by 
the borrower of the proceeds of these loans. If the 
transaction in connection with which the proceeds of 
the loan are used will be completed during its life the 
loan may be said to pay for itself. It is to be pre- 
sumed also that borrowers will use the proceeds of 
loans which they are to repay in a few months more 
wisely than might be the case if the payment were in- 
definitely deferred. Moreover, conclusions based 
upon the analysis of the statements of borrowers and 
upon other information are a basis for short time 
credit only, since over a long period conditions may 
change radically for the worse. Unsecured loans 
must therefore as a rule possess that quality of liquid- 
ness which comes from short maturities to make them 



258 STANDARD BANKING 

a proper investment for banks or indeed for any 
lender. One common method of seeking not only to 
make certain that the loans made under lines of credit 
shall be liquid, but also to determine whether credit 
may be safely continued, is to insist that all borrow- 
ing be cleaned up at least once a year. This is often 
an effective requirement, though it may be more nomi- 
nal than real, since borrowers may simply allow ac- 
counts payable temporarily to pile up against them. 
The supply of credit which the banks are in position 
to lend is, however, so large that the banks quite gen- 
erally do lend more or less continuously to many bor- 
rowers. Concerns whose business is growing and 
which show good earning power are a reasonably safe 
basis for such loans pending a time when they may 
be expected to secure additional capital by means of 
more permanent obligations, by an issue of additional 
capital stock, or by the gradual process of putting 
profits back into the business. Firms engaged in a 
few lines of business may perhaps be regarded as sat- 
isfactory borrowers even though they continue to rely 
indefinitely upon banks for a part of their working 
capital. In such cases it is essential that the firm 
shall be engaged in a business the products of which 
are in constant demand and therefore readily saleable 
for cash. 

COLLATERAL LOANS TO DEPOSITORS. 
— Based upon knowledge of the amount of loans made 
in former years, the future needs of regular commer- 
cial depositors can be fairly well determined; but, as 
in the case of the requirements of depositors for cash, 



STANDARD BANKING 259 

the estimate cannot be exact, and for short periods 
may be wholly at fault. Evidently if it is regularly 
to keep its funds fully employed, a bank must invest 
a part of them in other ways, in assets which can be 
converted into cash without disturbing valuable rela- 
tionships. The banker may have made a considera- 
ble number of collateral loans to his depositors. The 
greater part of such are made on the security of stocks 
and bonds; and, leaving out of view those made to 
depositors who are engaged in the business of mar- 
keting securities, these loans can be allowed to mature 
and new loans can be refused with less danger of loss 
of accounts than in the case of regular commercial 
borrowers. This is because the proceeds of collateral 
loans are largely used to enable borrowers to pay for 
purchases of securities and for other purposes outside 
their regular business. Moreover, the borrowers 
whose loans are based on readily marketable collat- 
eral, can arrange to borrow from other banks more 
readily than is generally true in the case of the com- 
mercial borrower. 

COMMERCIAL PAPER.— There are two 
classes of loans insistence on payment of which, to- 
gether with the refusal to make new loans, does not 
subject a bank to the danger of the loss of any business 
advantage. These loans are commercial paper pur- 
chased from note brokers and collateral loans made to 
stock brokers and investment bankers who are not de- 
positors of the lending bank. Note brokers are re- 
sorted to by business concerns whose borrowings are 
large, often too large to be granted by one or more 



260 STANDARD BANKING 

banks, even by those of the largest size. Banks pur- 
chasing this paper incur absolutely no obligation to 
take additional paper in the future. They may buy 
regularly or intermittently, as suits their own con- 
venience; the relation between borrower and lender 
is absolutely impersonal. Commercial paper pur- 
chased from note brokers has for many years been a 
favorite avenue for the employment of a considerable 
portion of the secondary reserve of the banks. A 
banker is indeed less likely to know intimately the 
character of this paper than that of loans made to his 
own depositors. Here, however, the note broker, if 
wisely selected, is a valuable safeguard. It may be 
said without qualification that the losses of banks 
from commercial paper purchased from note brokers 
of high standing have been far less than those from 
loans to their own depositors, and immeasurably less 
than those from purchases of paper from distant bor- 
rowers made directly in order to save the broker's 
commission. The notes which are sold to the banks 
by note brokers are generally in round amounts of 
$5,000 and in multiples of $5,000. Only very large 
banks will have sufficient funds invested in this way 
to provide them with a steady succession of maturi- 
ties. For the small bank, therefore, commercial paper 
is rather a means of employing surplus funds which 
are not likely to be needed during the continuance of 
the loan. In this connection it should be noted that 
there seems to be a tendency to lengthen the average 
maturity of this class of loans, owing to the fact that 
the borrower ordinarily pays the same commission 



STANDARD BANKING 261 

whether the paper is to run for three or for the maxi- 
mum period of six months. This longer average ma- 
turity lessens the value of commercial paper to most 
banks as a liquid asset for ordinary working purposes. 
LOANS ON SECURITIES.— The favorite in- 
vestment for funds which may be needed at any mo- 
ment is the collateral loan to stock brokers and to 
banking houses engaged in marketing securities. A 
part of these loans is on time and has very much the 
same utility as a means of employing banking funds 
as commercial paper purchased from note brokers 
with the further advantage that a greater range of 
maturities is available. There is a broad market for 
collateral loans maturing all the way from one month 
to six months. A large part of the total of collateral 
loans also is payable on demand. Stock exchange 
dealings and the marketing of securities are unlike all 
other kinds of business in that they can be in part 
conducted on the basis of call loans. The quick sale- 
ability of the commodity handled makes this possible ; 
consequently, we have here a demand for loans under 
such conditions as to enable banks to make full use of 
their lending power right up to the limit set by their 
reserve requirements. In the absence of call loans it 
would clearly be impossible for the banks to keep their 
reserves intact and at the same time lend close to the 
limit of reserve requirements. Many considerations 
must be taken into account in determining the relative 
amount of its funds which shall be employed by a 
bank in the various ways which have been outlined. 
Banks whose deposits fluctuate with some degree of 



262 STANDARD BANKING 

regularity can naturally invest in a different fashion 
from those subject to large requirements which can- 
not be foreseen. 

Loan Equilibrium 



ADJUSTMENTS OF RESERVES.— Suppose 
that a bank which has invested in all of the various 
ways heretofore described finds itself below reserve 
requirements. From knowledge of the tendencies of 
the accounts of its depositors it may perhaps be rea- 
sonably certain that within a few days through de- 
posits of cash or through deposits of checks giving it 
a favorable balance with other banks its reserve will 
be restored. Many bankers in these circumstances 
might be content to allow affairs to take their own 
course. Others, especially in cities where the banks 
publish a weekly statement, would be likely to call 
some of their demand loans but might continue to pur- 
chase commercial paper and make time collateral 
loans to an amount something like current maturities 
of such loans. If, however, there was reason to be- 
lieve that depositors were likely still further to draw 
down their balances and if demands for further ac- 
commodation from depositors were to be expected, a 
much greater reduction in call loans might be made 
and at the same time new investments in commercial 
paper, and in time collateral loans, might be largely 
discontinued. No one of these three kinds of loans 
would presumably be liquidated before a beginning 
was made with the other two. Some weight would 
of course be given to the relative rates prevailing for 



STANDARD BANKING 263 

each of these three kinds of loans. Bonds would prob- 
ably not be disposed of unless a pronounced change 
in the conditions surrounding the employment of its 
funds was foreseen or unless a bank were confronted 
with a serious change for the worse in its affairs. 
While there are neighboring banks with surplus funds 
to lend a bank whose loans are liquid experiences no 
difficulty in securing additional funds by means of 
contraction, though such enforced contraction might 
result in loss of business to competitors. Aside from 
loans to its own depositors, payment for which will 
ordinarily involve a cancellation of its own deposit 
obligations, it is important to observe that the addi- 
tional funds which a bank thus secures come from 
other banks. When bank loans are paid by borrowers, 
money to an insignificant amount is drawn from gen- 
eral circulation. The total money holdings of the 
banks are not appreciably increased ; there is simply a 
shifting of cash holdings among the banks. 

GENERAL CONTRACTION OF LOANS.— 
In periods of active business, however, banks can and 
generally do lend all that their reserves will support. 
If during such a period any considerable loss of cash 
occurs, the foundation of credit is weakened and the 
banks generally may desire to strengthen themselves. 
A policy of contraction of loans may then be adopted 
by most of the banks at the same moment. The re- 
sults of contraction in such circumstances are far less 
effective in strengthening the banks than those which 
follow contraction by one or a few banks. Just as 
when loans increase more checks are drawn in pay- 



264 STANDARD BANKING 

merit for increased purchases, so when loans are being 
generally reduced more checks are drawn in favor of 
the banks with no corresponding inflow of money. The 
payment of loans does not increase the amount of 
money in the possession of the banks taken as a 
whole; it simply reduces deposit obligations. When 
surplus reserves are low, it may involve a contraction 
of loans several times the amount of the cash lost. 
If the cash lost is due to gold exports the advance in 
rates which is certain to accompany general loan con- 
traction may make it profitable to borrow in foreign 
markets. Such borrowings often bring about the ces- 
sation of a gold export movement. It is seldom pos- 
sible, however, so completely to reverse the exchanges 
by this means as to secure additional cash by means 
of gold imports. 

ULTIMATE EFFECTS OF CONTRACTION. 
— Ultimately if contraction entails lessened business 
activity, money will flow into the banks from general 
circulation ; but this is a slow and uncertain resource 
of little use in meeting the pressing needs which usual- 
ly occasion the general liquidation of loans. The re- 
duction of deposit liabilities through contraction will, 
of course, bring the reserve ratio of the banks to a 
satisfactory point if it can be carried far enough. But 
it cannot be carried very far. Business cannot be sud- 
denly deprived of that amount of credit which it has 
been receiving without disastrous consequences. 
When the volume of business declines, the volume of 
credit can also be correspondingly reduced but not 
before, except within narrow limits. The credit 



STANDARD BANKING 265 

granted to those engaged in one of the last stages of 
the production of some commodities can generally, it 
is true, be reduced without much difficulty. Consider, 
for example, the meat and provision business. Packers 
reduce their purchases of cattle and hogs. The nec- 
essary daily consumption of the people soon reduces 
the stock on hand and as cash payments are the rule 
in this line of business the packers will shortly be able 
to liquidate their loans and would require no new ac- 
commodation. It seems at first sight as if a large 
amount of commercial loans would have been elimi- 
nated. But consider the situation of the large number 
of farmers engaged in the business of raising cattle 
and hogs. Unable to sell as much as usual to the 
packers they would be obliged to fall back upon their 
own banks, from which they would be compelled to 
borrow more largely than usual. Even call loans are 
much less liquid than is generally supposed. When 
a few banks demand payment of these loans brokers 
to whom they are principally made secure loans else- 
where and the banks calling the loans are paid. The 
total volume of call loans is not much changed. With- 
in narrow limits it may be possible to reduce the ag- 
gregate of such loans by sales of securities to persons 
able to pay for them outright. It is also possible to 
secure additional margins from customers for whom 
brokers are carrying securities. But when all banks 
call loans they soon cease to be convertible. Pur- 
chasers who might be able to pay for securities out- 
right become frightened, while alarm and even panic 
may become general. In order to prevent disastrous 



266 STANDARD BANKING 

failures among brokers and consequent loss to them- 
selves the banks find it necessary to refrain from in- 
sisting upon general loan contraction. 

GENERAL LOAN CONTRACTION TO BE 
AVOIDED. — In European countries the banks never 
find it necessary to attempt to strengthen themselves 
by sudden and general contraction of loans. Slow 
contraction of loans is of course sometimes insisted 
upon when it is thought that the business situation 
will thereby be improved. If it is merely a question 
of strengthening the banks, however, recourse is had 
to the central banking institutions found in all Euro- 
pean countries. Unlike other banks these central 
banks in ordinary times never lend to the full extent 
of their power to grant credit. They are therefore 
always in position to take over a part of the load of 
loans from the other banks. This makes the situation 
in emergencies in European countries analogous to 
what it has been with us when some, but not all, of 
the banks were seeking to strengthen themselves by 
means of contraction. It cannot be expected that 
each one of the many thousands of banks in this coun- 
try will reserve part of its lending power for emer- 
gencies which after all come but seldom. Somewhere 
in every banking system a reserve of lending power is 
required, and it is primarily to meet this requirement 
that the Federal Reserve banks were established in 
1914. 

RESERVE BANKS AND LIQUIDNESS.— 
Under the Federal Reserve System the course fol- 
lowed by banks in making adjustments to variations 



STANDARD BANKING 267 

in demands for cash are not materially different from 
what it has been in the past. It is just as necessary 
as formerly for a bank to keep itself in a liquid condi- 
tion, but the relative liquidness of different classes of 
assets have been somewhat changed and the liquid- 
ness of all assets are enhanced. The liquidness of all 
assets are enhanced if the reserve banks maintain 
themselves in a condition of such strength as to be 
able at all times to supply additional credit and cur- 
rency to meet emergencies. The process of conver- 
sion of assets into cash is the simple matter which we 
have already seen it to be when only a few banks ex- 
perience the need of conversion. The process of con- 
version is a simple matter since it does not involve 
contraction but merely the transfer of assets to re- 
serve banks, in exchange for cash. Loan contraction 
will, no doubt, from time to time occur when the vol- 
ume of business falls off or when there is evidence of 
an over-extended condition of affairs. Contraction 
will be carried through gradually, however, so as to 
conserve all interests so far as may be possible. Con- 
traction will not be resorted to merely to strengthen 
the banks. 

RESERVE BANKS AND COMMERCIAL 
LOANS. — As an indirect consequence of the opera- 
tion of the reserve banks all bank assets are more 
steadily liquid than in the past. Bonds, for example, 
are more steadily saleable, and the possibility of shift- 
ing call loans is always present. But obviously those 
assets gain most in liquidness which can be used as 
a basis for loans from the reserve banks. Most of the 



268 STANDARD BANKING 

European banks may make loans of all kinds both to 
individuals and to banks. In the case of the reserve 
banks the field of operation has been somewhat nar- 
rowly prescribed, though it may be added it includes 
those classes of business which make up the bulk of 
the investments of the European central banks. The 
normal lending operations of the reserve banks are 
limited to the purchase of commercial bills of ex- 
change and the rediscounting for member banks of 
commercial loans of all kinds maturing within ninety 
days and of agricultural loans maturing within six 
months. The rediscounting of loans secured by stocks 
and bonds is specifically prohibited. Commercial 
loans are generally defined in the act as " notes, drafts 
and bills of exchange rising out of actual transactions. 
That is, notes, drafts and bills of exchange issued or 
drawn for agricultural, industrial, or commercial pur- 
poses, or the proceeds of which have been used or are 
to be used for such purposes." The Federal Reserve 
Board was authorized to define more precisely the 
nature and character of eligible paper. In the exer- 
cise of this power the Reserve Board has defined com- 
mercial loans in such a way as to include all loans to 
borrowers engaged in production and marketing of 
goods whose current liabilities are not in excess of 
their current assets. Loans of this character are 
everywhere the backbone of the banking business. 

SOURCES OF PAYMENT OF BANK 
LOANS. — Borrowers derive the means of payment of 
bank loans from a variety of sources. The liquidation 
of many loans is dependent upon the sale of property, 



STANDARD BANKING 269 

such as real estate and buildings, or of stocks or bonds. 
Some loans are gradually reduced and ultimately paid 
in full with savings made from income and especially 
from the profits of a business. The floating indebted- 
ness of a successful business may be liquidated by se- 
curing additional capital, either through the issue of 
new stock or the sale of bonds. Payment of particular 
loans may be accomplished by borrowing elsewhere 
or by postponing the payment of current accounts 
with those from whom goods have been purchased. 
Finally, means of payment may be secured during the 
life of the loan as a natural result of the regular opera- 
tions of a business. In the case of particular loans, 
any one of these various means of payment may be 
regarded as of primary importance by the banker, but 
the bulk of all bank loans are based mainly either upon 
collateral or upon the expected results of natural busi- 
ness operations. Some loans possess both these ele- 
ments of strength, but more commonly credit is 
granted upon one of them alone rather than both in 
combination. 

Credit Considerations 

COMMERCIAL LOANS.— Loans, the means of 
payment of which become available during the life of 
the loan as a result of the regular operations of a busi- 
ness, are commonly known as " commercial loans." 
The instrument in which the obligation is embodied 
may be either a bill of exchange or a promissory note. 
The lender may rely for payment upon the borrower 
alone or require additional security — either a lien on 



270 STANDARD BANKING 

tangible property or the endorsement of one or more 
third parties. There is, then, much variety among 
commercial loans, but they all possess one feature in 
common which overshadows these differences. To 
be a commercial loan, the proceeds must be used in 
financing the production and marketing of goods, 
operations from which the means of payment will or- 
dinarily be derived before it matures. The limits with- 
in which banks may safely finance these operations, 
and the terms on which accommodation shall be 
granted, constitute the complex problem of the com- 
mercial loan. The financing of fixed assets — land, 
buildings, and machinery — is entirely outside the 
limits of commercial borrowing. No part of the in- 
debtedness of a borrower in excess of his current as- 
sets can be regarded as commercial in character. 
Moreover, to finance anything like all of current as- 
sets by means of short time loans would in almost all 
instances involve the speedy insolvency of the bor- 
rower and loss to the banks. 

CURRENT ASSETS.— Current assets consist 
of materials, work in process, finished goods, accounts 
and notes receivable, and cash. In the ordinary course 
of business all the other current assets are in process 
of conversion through one or more stages into cash. 
At the same time, however, it is to be noted that unless 
a business is being wound up, new current assets of 
each kind are constantly being acquired. The ma- 
terials of to-day become the finished goods of to-mor- 
row and the receivables of a more distant future. Cur- 
rent assets are revolving assets. 



STANDARD BANKING 271 

CURRENT LIABILITIES. — An analogous 
process is to be observed in the current obligations 
of a business. Indebtedness to banks and to those 
from whom goods are purchased is contantly matur- 
ing and being paid, but new obligations are at the 
same time being incurred in connection with the oper- 
ations which will result in future sales. There must 
be a constant inflow of cash to a business to meet these 
obligations as they become due, and this inflow must 
be sufficient, not merely for this purpose, but also to 
provide for the current running expenses of the busi- 
ness, to say nothing of provision for up-keep and earn- 
ings. But since new obligations are constantly being 
created, there is always the possibility, in the case of 
a business which is losing ground, that an inadequate 
inflow of cash is being met by using proceeds of new 
current obligations to meet the burdens of the past 
rather than the operations of the future. Since busi- 
ness is a continuing process, it cannot be constantly 
subjected to the test of complete liquidation of its in- 
debtedness. The supply of cash, therefore, may be 
sufficient to meet maturing obligations for a consider- 
able time after a concern is in an unsound or even in- 
solvent condition. 

SAFE LIMITS OF CURRENT LIABILI- 
TIES. — Two methods of determining whether the 
current liabilities of a business are being kept within 
safe limits may be distinguished. Under one method 
credit is based upon the entire financial position of the 
borrower as determined by the analysis of statements 
of the condition of his business and other information. 



272 STANDARD BANKING 

Under the other method specific transactions, pur- 
chases and sales of goods, measure borrowing capa- 
city. Before considering the respective merits of 
these two methods, it is to be noted that neither of 
them has validity — indeed, they may be positively 
misleading — in the absence of character and business 
ability in the borrower. The most prosperous busi- 
ness may be quickly ruined through mismanagement. 
Under no method of determining proper limits for 
loans can the possibility of loss through dishonesty 
be entirely eliminated. Judgment of men is funda- 
mentally essential for the successful conduct of com- 
mercial banking. But definite rules and principles for 
estimating the character and capacity of individuals 
are of little service. In the final analysis, therefore, it 
will simply be assumed that the banker has satisfied 
himself regarding these essential qualifications. 

STATEMENTS OF BORROWERS. — The 
honesty of the borrower is especially important when 
statements of the condition of his business are used 
in determining the amount of credit which may safely 
be granted. An independent audit of course reduces 
the danger from fabricated statements, and such au- 
dits are becoming increasingly common, although 
they can hardly be expected in the case of borrowers 
of small or medium size. The practice of requiring a 
statement of condition from borrowers has grown 
during the last twenty years until now it is almost 
universal in well-managed banks. It is evidently an 
imperatively necessary requirement where credit is 
granted on unsecured single name paper. Statements 



STANDARD BANKING 273 

of condition are made with varying degrees of com- 
pleteness. Often only a balance sheet is available, but 
frequently a statement of the amount of sales is also 
given, as well as other information. The balance 
sheet alone is commonly the only information fur- 
nished purchasers of commercial paper from note 
brokers. Borrowers naturally are unwilling that de- 
tailed information regarding their affairs should be 
spread broadcast throughout the country. To the 
note broker, however, more complete information in 
confidence is commonly given. When balance sheets 
alone are available intimate knowledge of the industry 
in which the borrower is engaged is needed in order 
to interpret them. The relative amount of various 
kinds of current assets and liabilities shown in the 
balance sheet when compared with statements of 
others engaged in the same line of business will often 
indicate whether it is in a sound or weak condition. A 
single balance sheet is of very little significance, but 
a series of statements extending over a period of years 
often throws much light upon the conditions and ten- 
dencies of a business. 

FUNDAMENTAL QUESTIONS.— In order 
that any banker may avoid the two extremes — the 
error of extending too much credit and the error of 
extending too little — something more than the or- 
dinary statement of assets and liabilities is required, 
and particular attention is called to the fact that it is 
not the customer with intent to deceive who is most 
dangerous. It is the customer who in all sincerity is 
himself deceived. In analyzing business statements, 



274 STANDARD BANKING 

therefore, the banker must get below the surface. 
Here are some of the questions that must be answered. 

1. Does the business under consideration occupy 
a legitimate field, and if so, is it firmly entrenched in 
such field or is it vulnerable to attack by enemies? 

2. If a manufacturing concern is the demand for 
its products permanent, or does the demand depend 
upon some temporary fashion or fad? 

3. Is the business a monopoly, or is it open to 
competition in its own line or along similar lines that 
may seriously affect it? 

4. If the business purports to be protected by 
patents, are such patents really good for anything, 
and, if so, how long before their expiration? 

5. Are the location of the business and the con- 
dition of its plant such as to insure economical opera- 
tion? 

6. Who are the proprietors, and do they under- 
stand their business — or any business? Are their 
knowledge and experience largely technical, or do 
they understand the ways of the financial world? 

7. Is the plan of accounting employed such as 
will show the actual condition of the business up to 
date, or do the statements taken from the books repre- 
sent its condition six months or a year previous? Do 
the books show a proper distribution of cost, and are 
there proper reserves for bad debts, depreciation and 
contingencies? 

8. How do the people who conduct the business 
stand with their customers, and with the general 
trade? 



STANDARD BANKING 275 

9. What is the relationship between the man- 
agers and their employees? 

10. Is the loan desired and required for the legi- 
timate purposes of the business, or are the proceeds 
to be used in some other way? 

RATIO OF CURRENT ASSETS TO LIABI- 
LITIES. — It is a common rule of thumb that current 
assets ought to be twice the amount of current liabili- 
ties. This is not a rule for lending that should be fol- 
lowed blindly; it is merely a suggestion, a sort of 
guidepost. If the current liabilities are more than 
one-half the assets it naturally puts the banker on in- 
quiry to find out whether the rather high proportion 
of current liabilities to current assets is safe. A 
proportion of \y 2 to 1 may in certain lines of business 
be a more satisfactory proportion than a 2y 2 or 3 to 1 
proportion in other kinds of business. 

LIQUIDATION OF ASSETS.— It is necessary, 
therefore, to know a good deal about the nature of dif- 
ferent kinds of business if one is to grant credit wisely. 
There are some kinds of business the products of 
which are universally consumed and paid for in cash. 
Concerns engaged in such business obviously can bor- 
row more largely, and can go along with a lower ratio 
of assets to liabilities, than those engaged in other 
kinds of business. Take a business like that of the 
packers, for instance, who are large borrowers 
through note brokers. It would be possible for such 
concerns to liquidate many millions of dollars in a 
comparatively short time. All they would need to do 
would be to purchase in the near future a smaller num- 



276 STANDARD BANKING 

ber of cattle and hogs. The demand for their pro- 
ducts would quickly take off the existing supply and 
they would largely be paid in cash. Moreover, they 
would lose no valuable trade connections by curtail- 
ing operations, and possibly they might take advan- 
tage of the situation to add a few cents to the price of 
their products. 

SLOW LIQUIDATION.— Let us consider an- 
other kind of business, say a furniture manufacturer. 
It might be that just at the time when he would like 
to reduce his obligations his obligations will increase. 
Let us suppose circumstances in which the demand 
for furniture suddenly falls off on account of general 
reaction in the activity of trade. Dealers in furniture 
would in those circumstances purchase less than the 
expected supply of furniture, and presumably, also, 
they would defer more or less their payments on past 
purchases. In the meantime the maker of furniture 
would find himself loaded up with a large amount of 
it, for the moment unsalable, and he would have no 
one on whom he could fall back, as was the case with 
the dealer. Of course, the furniture maker might de- 
fer payments for materials to a certain extent, but the 
value of the materials going into furniture is small as 
contrasted with the value of the furniture itself, as so 
much of the value of that product is due to the labor 
employed upon the material. On this account the de- 
lay on the part of the furniture maker in meeting his 
payments for purchases would not by any means off- 
set delays on the part of furniture dealers in making 
payments to makers of furniture. Clearly, then, the 



STANDARD BANKING 277 

furniture maker is a concern from which one would 
demand a higher ratio of quick assets to quick liabili- 
ties than from a packing-house concern. In a general 
way it may be said that those engaged in the last 
stages of production, if they are producing an article 
which enters into necessary and general consumption, 
can extricate themselves from critical credit situations 
more easily than any other class of producers in the 
community. 

VOLUME OF SALES.— In the interpretation 
of balance sheets the amount of net sales is of great 
assistance. A rapid turn-over of current assets, as 
compared with that of others engaged in the same 
line of business, is ordinarily an indication of a capa- 
ble and successful management. It implies that stocks 
are wisely purchased ; it also indicates that dead stock 
is not inflating the inventory, and that accounts long 
past due are not being carried. An absolutely high 
turn-over is also significant. Here there is a wide 
variation owing to differences in the nature of various 
lines of business. The process of production may be 
long, or the terms of payment may be customarily 
liberal, as in the case of agricultural implements. 
Where these conditions are found the ratio of current 
assets to current liabilities should be high — in other 
words, a large part of the current assets should be 
financed by those conducting the business. 

RATIO OF COLLECTIONS TO MATURI- 
TIES. — As we have already seen, the inflow of cash 
to a solvent business must be sufficient to meet its 
various maturities and all the other expenses of the 



278 STANDARD BANKING 

business, and in the case of a prosperous concern, there 
must be something left for profits. A high ratio in 
cash receipts to the payments which must be met, 
evidently, then, affords the strongest possible basis 
for the conclusion that a business will be able to liqui- 
date its obligations in the future. Suppose, for exam- 
ple, that during the two previous years the average 
monthly collections of a given manufacturing business 
have been $100,000; that the average monthly matu- 
rities have been $50,000, and average payments on 
account of rent, interest, insurance, taxes and office 
salaries, have been $30,000. By the discontinuance of 
its manufacturing operations it is certain that this 
concern could liquidate its indebtedness unless there 
should be a most severe falling off in the demand for 
its product. As in the analysis of the balance sheet, 
account would necessarily be taken of the nature of 
the business. A higher margin of collections would be 
requisite in some industries than in others. This 
method of testing credit does not take the place of 
balance sheets and other sources of information. It 
simply supplements them, though it is believed that in 
the course of time this ratio between collections and 
maturities and fixed charges will come to be regarded 
as the most important single factor in credit analysis. 



CHAPTER VII 



Collateral Loans 

COLLATERAL LOANS are loans secured by 
pledge of personal property. A pledge is a bail- 
ment of personal property as security for the 
payment of a debt or the performance of an act, with 
an option of sale in the pledgee upon the default of 
the pledgor in his engagement. The article pledged 
may be any species of personal property, but of late 
years a pledging of stocks, bonds, negotiable paper 
and other representatives of intangible personal prop- 
erty has come to be designated by the term "hypothe- 
cation," or the giving of "collateral security," to dis- 
tinguish such a pledge from a pledge of material 
articles. A pledge gives greater rights than a lien, 
for a pledgee has a power of sale which the owner of 
a lien has not. It is less than a chattel mortgage, for 
in a chattel mortgage the legal title passes, subject to 
be divested upon the fulfillment of the mortgage 
terms ; in a pledge the title may or may not pass — ordi- 
narily it does not, but it has been held that it does in 
collateral securities. It differs further from a chattel 
mortgage in that to create a pledge no writing that it 
is a debt and a surrender of possession of property is 
necessary, and it is required merely that there be prop- 
erty as security. Ordinarily, too, a chattel mortgage 
must be recorded to be effective against third parties, 
while a pledge need not be. 

279 



280 STANDARD BANKING 

FORMATION BY CONTRACT.— A pledge is 
created by contract, either express or implied. An 
assignment of securities by a debtor to a creditor is 
presumed to be a pledge rather than a payment, and 
where doubt exists whether the transaction is a pledge 
or a chattel mortgage the courts favor holding it a 
pledge. The aim is to determine the real intention of 
the parties, and classify the transaction according to 
the intention shown. There must be a debt or engage- 
ment to be secured in order to create a pledge, but this 
debt may be some other person's than the pledgor's, 
and a pledge may be made to secure a present, future 
or past debt, though to make a valid pledge for a past 
debt some new consideration is ordinarily required. 
The pledge may be made to cover new debts as they 
arise, but there must be an agreement between the 
parties to effect this, for the pledge will not be deemed 
to attach to the new debt unless the new loan was 
made upon the security of the pledge. So the exist- 
ence of a former debt gives the pledgee no right to 
hold the pledge when the debt to secure which it was 
given has been paid. If the debt or contract to secure 
which the pledge is given is illegal, the pledgee can- 
not, of course, recover upon the contract, but he may 
nevertheless retain the pledge until it is redeemed. 

WHAT MAY BE PLEDGED.— Practically any 
personal property, tangible or intangible, may be 
pledged, as the right to shares of stock in a corpora- 
tion. Even property exempt from execution on a 
judgment, as a mechanic's tools, or necessaries, may 
be pledged. Property not yet in existence cannot be 



STANDARD BANKING 281 

pledged, and the attempt to do so merely creates a 
contract to make a pledge in the future, like an agree- 
ment to sell. Pay of soldiers and pensions cannot be 
pledged. By the National and many State Bank 
Acts, it is provided that "No association shall make 
any loan or discount on the security of the shares of 
its own capital stock, nor be the purchaser or holder 
of any such shares, unless such security or purchase 
shall be necessary to prevent loss upon a debt pre- 
viously contracted in good faith, and stock so pur- 
chased or acquired shall, within six months from the 
time of its purchase, be sold or disposed of at public 
or private sale." 

PARTIES AND TITLE.— A person who trans- 
fers personal property in pledge as security for a debt 
must own the property or at least have apparent 
authority to pledge it. One who has been voluntarily 
clothed by the owner with the indicia of ownership, 
though this may have been induced by fraudulent rep- 
resentation, may make a valid pledge as against the 
owner. One who takes negotiable instruments in 
pledge before maturity in good faith for value and 
without notice of any defect in the pledgor's title, 
acquires a valid holding title. Except in these two 
cases the pledgee acquires no greater title than the 
pledgor had. Mere possession of chattels, by what- 
ever means acquired, if there be no other evidence of 
property or authority to sell from the true owner, will 
not enable the possessor to give good title. An agent 
may pledge when and as his principal holds him out as 
having authority; if an agent pledges goods of his 



282 STANDARD BANKING 

principal to secure his private debt, the principal is 
entitled to recover them from the person to whom 
they are pledged, unless the agent was invested with 
the indicia of ownership, or the pledge was of nego- 
tiable securities. In most States, by statutory enact- 
ment, factors (commission merchants) may pledge 
goods entrusted to them to sell. One member of a 
partnership may make a valid pledge of firm property 
to secure a partnership debt, but not to secure an indi- 
vidual debt. An executor, administrator, trustee or 
other person in a representative capacity may not 
pledge his trust property for his own benefit. One 
who has only a lien cannot make a valid pledge, 
because to maintain a lien he must retain possession, 
while a pledge requires a delivery. Buying stocks on 
a margin creates the relation of pledgee and pledgor 
between the broker and his customer. 

DELIVERY. — An absolute essential to the cre- 
ation of a pledge is a delivery, actual or constructive, 
of the property pledged. A constructive delivery 
occurs when the evidence of recognized symbols of 
the thing is delivered, as the delivery of a warehouse 
receipt, or a bill of lading. But there must be some 
delivery. Thus where a bank cashier, to secure a cred- 
itor, sealed up a package of bank notes with an 
endorsement of their purpose and placed them in the 
bank vault, it was held that the creditor had no pledge 
or lien. A delivery to a third party for the pledgor's 
benefit with his consent is sufficient. A delivery with 
an intention to create a pledge is sufficient to create 
the relation of pledgor and pledgee without writing 



STANDARD BANKING 283 

or other act, but not in the case of certificates of stock, 
where a writing is required unless the certificate has 
been endorsed in blank. Even where a note is payable 
to a person's order there may be a valid pledge of it 
without endorsement, though the practice is not to be 
recommended. But in the case of stock it is necessary 
that there be a written transfer or power of attorney 
of some kind. The pledge continues so long as the 
pledgee retains possession, and the pledgee has a right 
against all the world to the retention of the article 
pledged until the payment of the debt secured, except 
as against the holder of a right which attached to the 
property before the making of the pledge. But a 
pledge of collateral securities may be temporarily 
redelivered to the pledgee for the purpose of collection 
by the pledgor without affecting the pledgee's lien, 
though this exception is not favored and is strictly 
limited. 

RIGHTS AND LIABILITIES OF PLEDGOR. 
— A pledgor has a right to assign, by sale or other- 
wise, his reversionary interest in the pledge, and upon 
notice to the pledgee the latter will be bound upon 
payment of the debt secured to turn the pledge over 
to the assignee. He has also a right to sue anyone 
who injures the pledge, though preference is given the 
pledgee in the matter of suing because his interest is 
generally greater. He has, of course, the right to 
recover the pledge on payment of the debt for which 
it was given as security, and he cannot be deprived 
of this right at the time of making the contract. To 
allow this would permit lenders to crush their cus- 



284 STANDARD BANKING 

tomers. But the pledgor's right to redeem may be 
released by a subsequent contract founded on a new 
consideration. Statutes in many States allow a pawn- 
broker to sell the pledge and foreclose the pledgor's 
right to redeem at the expiration of a fixed time, gen- 
erally a year. As to the liabilities of a pledgor, he is, 
of course, liable for the original debt, default in paying 
which may lead to a sale of the pledge and the applica- 
tion of the proceeds to the debt so far as they will go. 
If not sufficient to extinguish the debt he still owes 
the balance. The pledgor also impliedly warrants his 
title as that of an absolute owner. 

RIGHTS AND LIABILITIES OF PLEDGEE 
BEFORE DEFAULT.— The pledgee gets no better 
title than the pledgor had, except in the case of nego- 
tiable instruments, and except where the pledgor has 
been clothed by the owner with the indicia of owner- 
ship. The best example of clothing one with the 
indicia of ownership occurs in pledges of certifi- 
cates of stock. These are not regarded as nego- 
tiable instruments, but the owner, by endorsing or 
signing the power of attorney to transfer, thereby 
invests the holder with the apparent ownership, 
and the latter may then pass a good title to one 
who buys for value without notice, in good faith. 
There are some limitations to this, as where the 
pledgor is known to be an agent for a trustee the 
pledgee cannot take the stock with full protection 
unless he inquires into the authority of the representa- 
tive to make the pledge. Where the owner himself 
never endorsed the certificate, but someone else with- 



STANDARD BANKING 285 

out authority did, that does not avail against the true 
owner even in the hands of a pledgee or transferee 
without notice for value. The owner of an instrument 
negotiable or non-negotiable cannot be precluded by 
a forgery. The pledgee having the right of possession 
may sue any person who causes injury to the pledge, 
because, as a matter of fact, he has generally a greater 
interest than the owner himself in keeping the pledge 
intact. 

RIGHT TO THE USE AND PROFITS OF 
THE PLEDGE.— The pledgee may use the pledge so 
far as is reasonably necessary. Ordinarily this would 
be little or nothing, but the pledgee of a horse would 
have to use the pledge in order to keep it in condition, 
and in all cases the pledgee may use the pledge as the 
pledgor permits. The pledgee may collect the profits 
or income of the pledge, as dividends on stock or inter- 
est on bonds, but he must apply them to the principal 
debt, and if they exceed the amount needed, he holds 
the excess in trust for the pledgor. The pledgee may 
have pledged stock transferred to his name on the 
books of the company, and this is frequently done, 
and may vote such stock, though in some States the 
pledgee, upon the demand of the pledgor, must give 
the latter a proxy to vote the stock. The pledgee is 
liable for assessments on the stock standing in his 
name, though by statute in some States the pledgor 
and not the pledgee is liable; but the pledgee may 
charge against his pledgor the amount so paid. The 
pledgee is entitled to be reimbursed for necessary 
expenses in keeping the pledge. The pledgee may 



286 STANDARD BANKING 

assign his interest, and this he does by assigning both 
the debt secured and the pledge. 

PLEDGEE'S RIGHT TO HYPOTHECATE 
PLEDGED STOCK.— Where a broker purchases 
stock for a customer who deals with him on margin 
(creating the relation of pledgor and pledgee), it 
seems that the broker has the right to hypothecate 
the stock, at least to the extent that the broker has 
advanced his own money in the purchase. He is not 
bound to keep on hand the identical stock purchased, 
but still he must have on hand or under his control 
at all times ready for delivery to his customer shares 
of the same description, and in amount sufficient to 
fill the customer's order. He has no right to pledge 
his customer's stock beyond this, and commits the 
wrong of conversion if he does; but if he does, and 
there is nothing on the certificate to warn the broker's 
pledgee that it is already pledged, this second pledgee 
takes it free from any claims of the customer, and 
need not surrender it to the owner (purchaser) except 
on payment of the debt of the broker for which it was 
the second time pledged. This is owing to the rule 
already discussed that one who clothes another with 
apparent ownership cannot dispute the title of a buyer 
or pledgee from such person in good faith for value 
and without notice. The right to use, sell, or rehy- 
pothecate the pledge may be given by a pledge agree- 
ment, and is a common clause in collateral notes. 

REDELIVERY AND CONVERSION.— The 
pledgee must redeliver the identical thing pledged, 
with the increase and profits, upon tender of redemp- 



STANDARD BANKING 287 

tion by the pledgor, except that he need not deliver 
the identical certificates of stock. If the pledgee does 
not redeliver he is guilty of conversion, as he is at the 
time he makes an unwarranted use or disposal of the 
pledge. The rule as to measure of damage is gener- 
ally the value at the date of conversion, without refer- 
ence to the nature of the pledge. In New York State 
and in the United States courts, in the case of conver- 
sion of stocks, it is the highest value within a reason- 
able time after the pledgor becomes aware of the 
conversion; in other States it is the value at date of 
demand, or the highest intermediate value between 
date of conversion and the date of trial, or the value 
at date of conversion. 

RIGHTS OF PLEDGEE AFTER DEFAULT. 
— The pledgee upon default in redemption at the 
agreed time by the pledgor, may sue the pledgor upon 
the debt for which the pledge was given as security, 
and may recover judgment without affecting his lien 
on the property pledged; the property pledged may 
then be applied on the amount of the debt as repre- 
sented by the judgment. After default in redemption 
by the pledgor, the pledgee, on notice to the pledgor, 
and demand of performance, and on reasonable notice 
of the time and place of sale, may sell the property 
pledged at public sale. Demand of performance is 
waived by positive refusal to perform after perform- 
ance is due, but the pledgor's right to notice of sale is 
not thereby waived. This right to sell applies to all 
property pledged except negotiable instruments; 
these the pledgee must hold and collect as they 



288 STANDARD BANKING 

become due and apply the proceeds to the debt, in the 
absence of a special power of sale. The reason is 
that negotiable paper would never bring its true value 
on a forced sale. The general power of the pledgee 
to sell may be modified or enlarged by the pledge 
agreement. Thus banks ordinarily require of their 
borrowers a note waiving notice of time and place of 
sale, and providing for private sale, and many other 
provisions. A sale at a recognized stock exchange 
has been held to be a sale at public auction, but the 
point has not been clearly settled. The pledgee, in 
the absence of agreement, has no right to buy at the 
sale. If the subject matter of the pledge can be divided 
the pledgee may sell only such part as will discharge 
the debt; otherwise he is liable for conversion of the 
part not necessary to be sold. The notice should be 
served or given to the pledgor in person, or to an 
authorized agent if the pledgor have one. 

TERMINATION OF PLEDGE.— A pledge is 
not terminated by the death or bankruptcy of the 
pledgor, but at the termination of the pledge agree- 
ment the pledgor's representatives may make tender 
of the debt and demand the property, and in default of 
such tender the pledgee may sue the pledgor's repre- 
sentatives or sell upon notice to them. Payment ter- 
minates the pledge as does redelivery, tender or sale, 
and if the pledgee does not redeliver on a good and 
valid tender he converts the pledge and may be sued 
for the value of the property. 

WAREHOUSEMEN AND WAREHOUSE 
RECEIPTS. — The law relating to warehousemen 



STANDARD BANKING 289 

and warehouse receipts is a branch of the law of bail- 
ments. A warehouseman is one engaged in the busi- 
ness of storing goods for others for compensation. 
He is a bailee for hire and is required by law to use 
reasonable skill and diligence, or "ordinary" care as 
it is technically termed, in respect to the property 
entrusted to him. Ordinary care is that degree of 
care which men of common prudence would exercise 
under similar circumstances with regard to their own 
property. A warehouseman is liable for ordinary 
negligence, or a want of reasonable care. He is not 
an insurer of the goods and is not responsible for their 
loss where he has exercised ordinary care. A ware- 
house receipt is a written acknowledgment by a ware- 
houseman that he holds certain described goods in 
store for delivery to the person to whom the receipt 
is issued or to his order where the receipt is nego- 
tiable. The Uniform Warehouse Receipts Act, which 
is now the law in a majority of the States, codifies and 
makes uniform the law of warehouse receipts. 

COMMON AND STATUTORY LAW.— At 
common law, independent of statute, warehouse 
receipts were assignable by delivery, or by endorse- 
ment and delivery, and their transfer passed to the 
assignee the title of the assignor to the property. The 
transfer of the warehouse receipt had the same effect 
as delivery of the goods themselves and vested in the 
assignee the constructive possession, but he took no 
better right or title than that possessed by the 
assignor. A valid transfer can be made by a mere 
delivery of the receipt with intent to pass title to the 



290 STANDARD BANKING 

goods, without endorsement, and statutes authorizing 
transfer of warehouse receipts by endorsement have 
been generally construed not to invalidate a transfer 
of title by mere delivery. But common law transfers, 
if they may be so called, did not give to the assignee 
any greater rights than the assignor possessed, and 
in a large number of States, prior to the enactment of 
the Warehouse Receipts Act, statutes were passed 
declaring warehouse receipts negotiable. These stat- 
utes, however, have been construed by the courts as 
not conferring upon warehouse receipts the full mea- 
sure of negotiability which is possessed by bills of 
exchange or promissory notes. They gave to the 
holder to whom a receipt had been regularly trans- 
ferred by endorsement, the effect of manual delivery 
of the goods represented ; they served to dispense with 
notice to the warehouseman that the receipt had been 
transferred, which notice was generally otherwise 
necessary to protect the holder from delivery of the 
goods to the original bailor; and their effect was to 
transfer the title to a bona-fide purchaser free from 
any equities of prior parties not apparent on the face 
of the instrument. They did not, however, confer 
upon the transferee title to the goods as against one 
who had a superior title to the transferor, nor confer 
title where the receipt was innocently acquired from 
a thief or finder, as against the true owner. The Uni- 
form Warehouse Receipts Act, which codifies and 
makes uniform the common and statute law, provides 
for two kinds of receipt, non-negotiable and nego- 
tiable. The non-negotiable receipt is one in which it 



STANDARD BANKING 291 

is stated that the goods received will be delivered to 
the depositor or to any other specified person. The 
negotiable receipt is one in which it is stated that the 
goods will be delivered to the bearer or to the order 
of any person named in such receipt. 

Warehousemen and Warehouse Receipts 

NON-NEGOTIABLE WAREHOUSE RE- 
CEIPTS. — A non-negotiable receipt is not, generally 
speaking, a document upon which the banker should 
advance value and receive in pledge. The transferee 
acquires as against the transferor, the title to the 
goods, subject to the terms of any agreement with 
the transferor, and he acquires the direct obligation 
of the warehouseman to hold possession of the goods 
for him according to the terms of the receipt. But 
prior to proper notification, the title of the transferee 
to the goods and the right to acquire the obligation of 
the warehouseman may be defeated by the levy of an 
attachment or execution upon the goods by a creditor 
of the transferee or by a notification to the warehouse- 
man by the transferor or a subsequent purchaser from 
the transferee of a subsequent sale of the goods by the 
transferor. Furthermore, in case the goods are deliv- 
ered by the warehouseman to the transferor prior to 
notification, the rights of the assignee or pledgee 
would be endangered, if not defeated, as the ware- 
houseman would not be responsible, although the 
receipt was not produced and surrendered when the 
delivery was made. The banker, therefore, is not par- 
ticularly concerned with the non-negotiable ware- 



292 STANDARD BANKING 

house receipt except to let it alone and to have an 
ability to know whether a receipt is non-negotiable 
or negotiable. 

NEGOTIABLE WAREHOUSE RECEIPTS. 
— Negotiable warehouse receipts are very extensively 
pledged to bankers as collateral for loans, but even 
under the Uniform Warehouse Receipts Act they do 
not possess the full measure of negotiability accorded 
by the law to bills of exchange and promissory notes. 
They are negotiable by endorsement and delivery, or 
by delivery alone if in form so permitting, in the same 
way as bills and notes, but although the receipt is in 
form capable of being negotiated by delivery, as by 
endorsement in blank, the bona-fide transferee for 
value from a thief or finder takes no title as against 
the true owner. This is one risk which the banker, 
as pledgee for value, incurs. If, however, a person 
entrusted with a negotiable receipt by the owner for 
a special purpose abuses his trust and makes a wrong- 
ful negotiation, the bona-fide transferee is protected 
as against the owner. The transferee of a negotiable 
receipt is also protected in his right to the goods as 
against a delivery by the warehouseman without 
taking up the receipt. The Warehouse Receipts Act 
requires, except in certain special cases, such as sale 
to satisfy warehouseman's lien or in case of perishable 
or hazardous goods, that where a warehouseman 
delivers goods represented by a negotiable receipt he 
must take up and cancel the receipt, or in case of par- 
tial delivery, make endorsement thereon, and failure 
to dp this makes him liable to the holder for value of 



STANDARD BANKING 293 

the outstanding receipt, whether the same was 
acquired before or after such delivery, and such failure 
is also made a criminal offense. This provision applies 
only to negotiable receipts and without it such 
receipts would frequently be valueless as security. 
Goods represented by an outstanding negotiable re- 
ceipt are, by the Warehouse Receipts Act, exempted 
from attachment or garnishment by a creditor of the 
depositor while in the possession of the warehouse- 
man, unless the receipt is first surrendered or its nego- 
tiation enjoined. This is an important provision for 
the protection of the banker who takes the receipt as 
security for a loan. 

WAREHOUSEMEN'S LIABILITY.— T h e 
Uniform Warehouse Receipts Act thus provides the 
rule of liability for contents of packages: "A ware- 
houseman shall be liable to the holder of a receipt for 
damages caused by the non-existence of the goods or 
by the failure of the goods to correspond with the de- 
scription thereof in the receipt at the time of its issue. 
If, however, the goods are described in a receipt 
merely by a statement of marks or labels upon them, 
or upon packages containing them, or by a statement 
that the goods are said to be goods of a certain kind, 
or that the packages containing the goods are said to 
contain goods of a certain kind, or by words of like 
purport, such statements, if true, shall not make liable 
the warehouseman issuing the receipt, although the 
goods are not of the kind which the marks or labels 
upon them indicate, or of the kind they were said to 
be by the depositor." 



294 STANDARD BANKING 

AGENTS OF WAREHOUSEMEN.— A fur- 
ther important question is whether a warehouseman, 
whose agent signs and issues a warehouse receipt for 
goods which have not in fact been received, is respon- 
sible to a transferee of the receipt for the goods stated 
to have been received. The rule of the common law 
which has had a more extensive application to cases 
of false bills of lading issued by agents of carriers, was 
that the principal was not bound, as the authority of 
the agent only extended to the issue of receipts where 
goods had been actually received, and a receipt issued 
for goods not in fact received was an act beyond the 
authority of the agent and not binding on the prin- 
cipal even in favor of a bona-fide holder of the receipt. 
A few States, among others New York and Pennsyl- 
vania, hold the principal liable for the act of his agent 
in such cases upon the theory of estoppel. The Uni- 
form Warehouse Receipts Act in the provision last 
above quoted changes the common law rule. It pro- 
vides that "a warehouseman shall be liable to the 
holder of a receipt for damages caused by the non- 
existence of the goods * * *" and this, coupled with 
a further provision of the Act that "the signature of 
the warehouseman may be made by his authorized 
agent" makes him responsible to a bona-fide holder of 
a warehouse receipt which acknowledges the receipt 
of goods not in fact received. The banker, therefore, 
who loans money upon a warehouse receipt falsely 
acknowledging the receipt of 300 tubs of butter, or 
any other commodity, can compel the warehouseman 
to make it good. 



STANDARD BANKING 295 

WARRANTIES OF GENUINENESS.— 
Where a receipt is negotiated or transferred for value, 
the Warehouse Receipts Act provides a warranty by 
the transferor of the receipt or of a claim secured 
thereby, of the genuineness of the receipt, that he has 
a legal right to negotiate or transfer it, and that he 
has no knowledge of any fact which would impair the 
validity or worth of the receipt. Also that he has a 
right to transfer title to the goods and that the goods 
are merchantable or fit for a particular purpose when- 
ever such warranties would have been implied, if the 
contract of the parties had been to transfer without 
a receipt the goods represented thereby. This would 
enable a banker, who took as pledge for a loan a forged 
receipt or a stolen receipt or a receipt for goods not 
owned by the person who obtained the loan, to hold 
the borrower responsible upon his warranty. But 
the law exempts a pledgee of the receipt who receives 
payment of the debt for which the receipt is given 
as security, either from the drawee of a draft therefor 
or from any other person, from liability as warrantor 
of the genuineness of the receipt or of the quantity 
or quality of the goods therein described. 

LIABILITY OF ENDORSERS.— Although a 
person who negotiates and sells a warehouse receipt 
to another, for value, warrants the genuineness of the 
receipt and the other matters above specified, he does 
not, by endorsing the receipt, incur the ordinary lia- 
bilities which attach to the endorser of a promissory 
note in case of default of the maker. The Warehouse 
Receipts Act provides that "the endorsement of a 



296 STANDARD BANKING 

receipt shall not make the endorser liable for any 
failure on the part of the warehouseman or previous 
endorsers of the receipt to fulfill their respective obli- 
gations." This is the law apart from the Warehouse 
Receipts Act and has been so ruled, even where State 
statutes have made warehouse receipts negotiable. 
The liability is analogous to that of an endorser "with- 
out recourse" of a promissory note. If the note is not 
paid, the endorser cannot be held, but if the note was 
a forgery or there was any defect of title, he would 
be liable as warrantor. 

WAREHOUSEMEN'S LIENS. — The ware- 
houseman has a lien on the goods for his charges, and 
statutes in many States have required that his lien be 
stated in the receipt, otherwise he cannot enforce such 
lien against the transferee for value of the receipt. 
It is obvious that negotiable receipts should show on 
their face what charges are claimed against the goods. 
The Uniform Warehouse Receipts Act requires that 
every receipt must embody "a statement of the 
amount of advances made and of liabilities incurred 
for which the warehouseman claims a lien. If the 
precise amount of such advances made or of such 
liabilities incurred is, at the time of the issue of the 
receipt, unknown to the warehouseman or to his agent 
who issues it, a statement of the fact that advances 
have been made or liabilities incurred and the purpose 
thereof is sufficient." 

EXTENSIVE USE OF WAREHOUSE RE- 
CEIPTS. — A bona fide purchaser of a warehouse re- 
receipt is one who has taken the receipt for value with- 



STANDARD BANKING 297 

out notice of defect in the title of the transferor. A 
pledgee who takes a warehouse receipt as security for 
a loan is a purchaser for value, and he acquires the 
pledgor's title to the property, so far as necessary to 
effect the object of the pledge. By means of the 
Negotiable Warehouse receipt, owners of millions of 
dollars of stored goods are enabled, through pledge 
of the receipt, to obtain needed loans and advances 
upon the security thereof, and tide themselves over 
periods when the goods are not readily salable. The 
warehouse receipt is in many respects analogous to 
the bill of lading; one represents goods in store, the 
other goods in transit. Both are now used to an enor- 
mous extent as instruments of credit, and loans and 
advances which run into the billions of dollars are 
annually made upon faith thereof. 

Carriers and Bills of Lading 

COMMON CARRIERS.— The transportation of 
merchandise by water and by land, from one point to 
another at shorter or longer distances, is a business 
of vast extent in our modern commerce. The person 
or corporation who conducts this business is termed a 
carrier. Carriers are of two classes, private carriers 
and public or common carriers. A private carrier is 
one who undertakes isolated cases of transportation 
and whose usual vocation is different. He is a bailee 
of the goods entrusted to him and, like other bailees, 
is bound to use ordinary care where he carries for 
hire and a less degree of care if the carriage is gratui- 
tous. A common carrier is one whose regular calling 



298 STANDARD BANKING 

is to transport, for hire, goods and chattels for all who 
may choose to employ and remunerate him. The 
common carrier differs from an ordinary bailee in two 
important particulars, (1) he is bound, according to 
his facilities, to transport all goods which are offered 
to him when coupled with proper remuneration, (2) 
his common law liability is exceptional. He is re- 
sponsible for the goods, where lost or damaged, as an 
insurer, except where the loss is caused by act of 
God or public enemy. 

BILLS OF LADING.— A bill of lading is a writ- 
ten acknowledgment by the carrier of the receipt of 
the described goods, and an agreement, for a consid- 
eration, to transport and deliver the same at a specified 
place to the consignee or person designated therein. 
The bill of lading must be signed by the carrier, but 
it has been quite generally held, with some few ex- 
ceptions, that it need not be signed by the shipper, 
and that the acceptance of the bill by the shipper binds 
him to the terms of the contract. The Uniform Bill 
of Lading Act provides for the signature of the ship- 
per, but the shipper does not always sign, and without 
his signature its acceptance by him completes the con- 
tract and binds both parties to its terms. Bills of 
lading now in common use are of two kinds, the 
Straight bill of lading and the Order bill of lading. 
The Straight bill of lading is an acknowledgment of 
the receipt of goods and an agreement to carry and 
deliver to a named consignee at destination. When 
this agreement is fulfilled by the carrier its contract 
is performed. The Straight bill contains no contract 



STANDARD BANKING 299 

of the carrier that he will require surrender of the bill 
before delivery of the goods. The Order bill of lading 
is a like receipt, but the contract is to carry and deliver 
to the order of a specified person, generally the ship- 
per, and it contains an express agreement that the 
surrender of the bill, properly endorsed, shall be re- 
quired by the carrier before delivery of the property. 
In the forms approved and recommended by the In- 
terstate Commerce Commission and generally used 
by carriers, the Straight and Order forms of bill are 
identical, including certain conditions on the back, 
except that the Straight bill omits the following mat- 
ters contained in the Order bill: (1) the surrender 
clause, (2) the inspection clause, (3) the words "order 
of" and (4) the word "notify," indicating the person 
to be notified of the arrival of the goods. 

NEGOTIATION OF ORDER BILLS.— The 
Uniform Bills of Lading Act, which has been enacted 
in a number of the most progressive States of the 
Union, and is a companion act to the Warehouse 
Receipts Act, makes a distinction between Straight 
or non-negotiable and Order or negotiable bills of 
lading and provides that "a negotiable bill may be 
negotiated by any person in possession of the same, 
however such possession may have been acquired, if 
by the terms of the bill the carrier undertakes to 
deliver the goods to the order of such person, or if at 
the time of negotiation the bill is in such form that it 
may be negotiated by delivery." The Uniform Bills 
of Lading Act, in modified form, has also been passed 
by Congress. It applies to bills of lading issued in 



300 STANDARD BANKING 

interstate and foreign commerce. Among its provi- 
sions is the one just quoted relating to negotiation 
of Order bills. This provision gives a greater degree 
of negotiability than heretofore to Order bills of 
lading, because under it the bona fide purchaser can 
acquire good title from a thief or finder, if endorsed 
in blank so as to be capable of negotiation by delivery. 
Order bills of lading, however, are not in all respects 
on the same footing as Straight bills of lading, for, 
as in the case of warehouse receipts, there is no lia- 
bility of the carrier as insurer of the contents of pack- 
ages where he has described such contents merely by 
a statement of the marks and labels upon them, and 
there is no liability of an endorser, as in the case of 
promissory notes, for default of the maker or prior 
endorsers. The banker who loans money or makes 
advances to one who assigns the bill of lading as 
security is chiefly concerned with the Order bill of 
lading. The Straight bill of lading affords him no 
security, for there is no obligation of the carrier to 
hold possession of the goods for the holder of the bill, 
and their delivery to the consignee before notice of 
the assignment of the bill of lading would protect the 
carrier. The only bill of lading, therefore, which 
should be considered as security by the banker is the 
Order bill, and even the taking of this bill as collateral 
is sometimes attended with certain risks. 

FALSE BILLS. — Heretofore a serious risk to 
the purchaser or pledgee of an Order bill of lading has 
arisen from the issue by the agent of the carrier of a 
bill of lading acknowledging the receipt of goods not 



STANDARD BANKING 301 

in fact received. This might be done (1) mistakenly, 
(2) fraudulently, as by collusion where there are no 
goods, (3) as a matter of accommodation to the ship- 
per, to furnish him in advance with the means of 
obtaining credit and in the expectation that the goods 
for which the bill has been prematurely issued will 
be ultimately delivered to the carrier for transporta- 
tion. By the rule of the common law which, before 
the enactment by Congress of the modified Uniform 
Bills of Lading Act, entitled "an act relating to bills 
of lading in interstate and foreign commerce/' was 
recognized and applied by the Federal courts and by 
many State courts, the carrier was not liable to a 
bona fide transferee or pledgee of the bill in such case. 
The authority of the agent to sign and issue bills of 
lading was held to exist only where he had already 
received the goods and not to exist in the absence of 
such receipt. Where he signed and issued a bill, 
therefore, which acknowledged the receipt of goods 
not in fact received, it was his own act and not the 
act of the carrier, and the latter was not bound to a 
transferee for value of the bill. In some few States 
the courts have refused to apply this rule, and have 
held the carrier liable on the ground that by holding 
his agent out to the public as authorized to issue bills 
of lading he has clothed him with an apparent author- 
ity in such cases which the carrier is estopped to 
deny. In some dozen or more States, special statutes 
have also been enacted making the carrier liable, and 
such liability is also provided by the Uniform Bills of 
Lading Act, wherein the issue or negotiation of bills 



302 STANDARD BANKING 

without goods is also made a criminal offense. The 
enactment by Congress of the Bills of Lading Act 
above referred to, provides such liability in cases of 
interstate and foreign shipments, and overturns the 
rule of non-liability applied by the Federal courts. 
The operation of such rule is now limited to intrastate 
shipments in a few States only, where the Uniform 
Bills of Lading Act has not been passed. The estab- 
lishment of a liability of the carrier for the truth of 
the statements in the bill of lading is of vital impor- 
tance, for otherwise, wherever money is loaned upon 
a bill of lading acknowledging the receipt of 100 bales 
of cotton, or two carloads of shingles or 500 sacks of 
potatoes, and no cotton, shingles or potatoes are be- 
hind the bill, the money is lost, for in such cases the 
shipper is generally irresponsible. The act of Con- 
gress also makes it a criminal offense to negotiate or 
transfer for value "a bill which contains a false state- 
ment as to the receipt of the goods." 

SPENT BILLS.— Another but less serious risk, 
owing to its lesser frequency, grows out of the rule 
applied by some State courts, though not recognized 
in others, that where the goods represented by an 
Order bill have been delivered to a person holding the 
bill and rightfully entitled thereto, but without requir- 
ing surrender of the bill, the contract of the carrier 
has been performed, the functions of the bill have 
ceased and it becomes a spent or dead bill. Where 
this rule is applied, should the holder of the unsurren- 
dered bill, after receiving the goods, fraudulently 
negotiate the bill, the holder would acquire no enforce- 



STANDARD BANKING 303 

able rights, and herein lies the risk. The Uniform 
Bills of Lading Act provides a liability of the carrier 
to the holder for value to whom a spent bill has been 
negotiated, and a similar liability is provided by act 
of Congress. The negotiation of spent bills is also 
made criminal by the State Uniform Bills of Lading 
Act. 

ALTERED BILLS.— At common law, a mate- 
rial alteration of a contract without consent of the 
person obligated, destroyed it, and the holder of such 
altered contract had no enforceable rights therein. 
Both by one of the conditions of the Uniform Bills 
of Lading and by provision of the Uniform Act, an 
altered contract is now enforceable for its original 
tenor and not destroyed completely. The act of Con- 
gress also provides "that any alteration, addition or 
erasure in a bill after its issue without authority from 
the carrier issuing the same, either in writing or noted 
on the bill, shall be void, whatever be the nature and 
purpose of the change, and the bill shall be enforce- 
able according to its original tenor." The risk from 
acquiring altered bills has therefore been lessened, 
although there is still danger of loss in the case of 
raised bills, as where a bill acknowledging receipt of 
10 boxes is fraudulently raised to 100. 

GOODS NOT OWNED BY SHIPPER.— An- 
other, though infrequent, risk attendant upon the 
giving of value upon the faith of an Order bill of 
lading arises in the case where the shipper is not 
owner of the goods shipped and is wrongfully in pos- 
session of them. He delivers the goods to the carrier 



304 STANDARD BANKING 

and receives an Order bill of lading therefor, upon 
which he obtains an advance. The holder of the bill 
as security would, in this case, have no right to the 
goods as against the true owner. 

GOODS LOST OR DAMAGED IN TRANSIT. 
— Where goods are lost or damaged in transit through 
a cause for which the carrier is exempted from respon- 
sibility by virtue of the conditions in the bill of lading, 
of course there is an impairment or loss of the secur- 
ity, as represented by the bill of lading, unless there is 
coupled with the bill of lading an insurance contract 
against such loss. But in this particular case the risk 
is not as great as might first appear, because the 
shipper or owner of the goods to whom the advance 
has been made upon security of the bill of lading, is 
generally a responsible person who is liable for and 
will be able to pay the money loaned, although the 
security for such loan has been destroyed. It is only 
in cases where insolvency or irresponsibility of the 
shipper or debtor is concurrent with loss of the goods 
from a cause for which the carrier is not responsible 
that the holder of the security will suffer. 

ATTACHMENT OF GOODS REPRESENT- 
ED BY BILLS OF LADING.— Numerous cases have 
arisen in many of the State courts where goods repre- 
sented by an Order bill of lading outstanding in the 
hands of a banker as pledgee for value have been 
attached while in the possession of the carrier by a 
creditor of the shipper. Lower courts in many of 
these cases have failed to recognize the rights of the 
banker holding the bill, and have sustained the attach- 



STANDARD BANKING 305 

ment; but almost invariably the higher courts of the 
different States have upheld his rights, as pledgee for 
value of the bill, as against the attaching creditor. 
In some cases where the banker has been proved to 
be only a collecting agent of the shipper, and not to 
have advanced value for or given credit for the draft 
to which the bill of lading is attached, the attach- 
ments have been held valid ; but wherever the banker 
has taken title to the draft with the bill of lading as 
security therefor, whether the full value has been 
actually paid out to the shipper or only credited to 
him in his bank account, the superior rights of the 
banker as pledgee of the bill have been upheld. The 
Uniform Bills of Lading Act provides an exemption 
from attachment of goods represented by an outstand- 
ing negotiable or Order bill of lading as follows: "If 
goods are delivered to a carrier by the owner, or by 
a person whose act in conveying the title to them to 
a purchaser for value in good faith would bind the 
owner, and a negotiable bill is issued for them, they 
can not thereafter, while in the possession of the car- 
rier, be attached by garnishment or otherwise, or be 
levied upon under an execution, unless the bill be 
first surrendered to the carrier or its negotiation en- 
joined. The carrier shall in no such case be compelled 
to deliver the actual possession of the goods until the 
bill is surrendered to him or impounded by the court." 
The same language is contained in the act of Con- 
gress as appears in this section of the Uniform Bills 
of Lading Act, except that the bill is termed an "order" 
instead of a "negotiable" bill. 



306 STANDARD BANKING 

NON-LIABILITY OF PLEDGEE AS WAR- 
RANTOR.— In 1898 a court in Texas held that a 
bank which had purchased a draft secured by bill of 
lading for wheat and collected the amount of the 
draft from the drawee, surrendering to him the bill 
of lading, was liable to the drawee for the amount 
collected where it turned out that the wheat was 
musty and of an inferior quality than that contracted 
for. The theory of the court was that the bank was 
not only a purchaser of the draft, but also a purchaser 
and seller of the wheat to the drawee and an implied 
warrantor of the security. This doctrine was soon 
afterwards followed by the Supreme Courts of North 
Carolina, Alabama and Mississippi, but was subse- 
quently overturned in later cases in three of the four 
States named, leaving the State of Mississippi as the 
only one whose courts still adhere to this doctrine. 
The contrary doctrine, that the bank purchasing a 
draft and taking an assignment of the bill of lading 
in pledge by way of security does not warrant the 
genuineness of the bill or the quantity, quality or 
condition of the goods, has been declared by the 
Supreme Court of the United States and by a large 
number of State courts, and is now expressly provided 
by the Uniform Bills of Lading Act, which, however, 
provides the same warranties by seller to purchaser 
as in the case of transfer of warehouse receipts. Sim- 
ilar provisions are contained in the act of Congress. 

SHIPPER'S LOAD AND COUNT.— In cases 
where the goods represented by bills of lading are 
loaded and counted by the shipper — and this is fre- 



STANDARD BANKING 307 

quently the case where large factories are located 
on spurs and sidings away from the main track 
and away from the railroad freight depot — the prac- 
tice is for the carrier to stamp on such bills the 
words "shipper's load and count," which indicate 
that the shipper has loaded and counted the con- 
tents of a particular car or shipment, and that 
the carrier is not responsible for the correctness 
thereof. Obviously such bills, although they may be 
Order bills, are not a safe basis of collateral, for 
the integrity of the bill as to value of the shipment 
rests entirely on the honesty of the shipper, and the 
carrier is not responsible. The act of Congress pro- 
hibits the insertion of words of this character when 
goods are loaded by the carrier, and also in certain 
cases where loaded by the shipper; that is to say, 
where the shipper of bulk freight maintains adequate 
facilities for weighing such freight, which are avail- 
able to the carrier, and makes written request of, and 
gives reasonable opportunity to, the carrier to ascer- 
tain the kind and quantity of bulk freight, the carrier 
must do so within reasonable time, and is prohibited 
from inserting in the bill "shipper's weight" or words 
of like purport. 

WORD "NOTIFY" ON ORDER BILLS.— It is 
sometimes assumed that the word "notify" on an 
Order bill of lading carries notice that the person to 
be notified has some right or equity in the goods 
which might be asserted as against a pledgee for 
value, and that it is therefore unsafe to advance value 
upon such a bill. This is an erroneous assumption. 



308 STANDARD BANKING 

The original form of bill of lading was the Straight 
bill. But as under this bill the carrier could deliver 
the goods to the consignee without taking up the bill, 
the shipper had no means of retaining the goods as 
security until he received payment of the purchase 
price. The practice, therefore, became common of 
issuing bills to order of the shipper, under which the 
carrier was required to hold the goods and make de- 
livery only to the holder of and upon surrender of the 
Order bill. The shipper would attach his bill to a 
draft and forward it for collection and upon payment 
of the draft by the purchaser of the goods, the bill 
would be delivered to him and enable him to obtain 
the goods from the carrier. The word "notify" on 
such bills simply indicates a request to the carrier 
that upon arrival of the goods he will notify the per- 
son for whom they are intended that he may, by pay- 
ing the draft and obtaining possession of and surren- 
dering the bill of lading, receive delivery of the goods. 
In addition to sending the draft and Order bill for 
collection, the practice is now common for the shipper 
to obtain an advance on the documents from his local 
banker, who, as owner of the draft with the bill of 
lading attached as security, has the collection made 
for his own account. The Uniform Bills of Lading 
Act clears up all doubt as to the effect of the word 
"notify" in an Order bill by providing that "the in- 
sertion in a negotiable bill of the name of a person to 
be notified of the arrival of the goods shall not limit 
the negotiability of the bill or constitute notice to a 
purchaser thereof of any rights or equities of such 



STANDARD BANKING 309 

person in the goods." The same provision is in the 
act of Congress. 

SURRENDER OF BILLS OF LADING TO 
DRAWEES. — Considerable doubt has arisen in the 
past in the minds of bankers holding drafts with bills 
of lading for collection, and some litigation has re- 
sulted, concerning the duty of the collecting bank to 
surrender the bill of lading to the drawee upon accep- 
tance of the draft or his obligation to hold the security 
until the draft is actually paid. The following pro- 
visions of the Uniform Bills of Lading Act thus regu- 
late the subject in accordance with the weight of 
authority: Where the seller of goods draws on the 
buyer for the price of the goods and transmits the 
draft and a bill of lading for the goods either directly 
to the buyer or through a bank or other agency, unless 
a different intention on the part of the seller appears, 
the buyer and all other parties interested shall be jus- 
tified in assuming : (a) If the draft is by its terms or 
legal effect payable on demand or presentation or at 
sight, or not more than three days thereafter 
(whether such three days be termed days of grace or 
not), that the seller intended to require payment of 
the draft before the buyer should be entitled to receive 
or retain the bill, (b) If the draft is by its terms pay- 
able on time, extending beyond three days after de- 
mand, presentation or sight (whether such three days 
be termed days of grace or not), that the seller intend- 
ed to require acceptance, but not payment of the draft 
before the buyer should be entitled to receive or retain 
the bill. The provisions of this section are applicable 



310 STANDARD BANKING 

whether by the terms of the bill the goods are con- 
signed to the seller, or to his order, or to the buyer, 
or to his order, or to a third person, or to his order. 
These provisions, however, are not contained in the 
Act of Congress. 



CHAPTER VIII 



Agricultural Loans 

AGRICULTURAL loans are not essentially dif- 
ferent from industrial loans. Both are made to 
assist in producing material for market al- 
though farm products are, for the most part, not 
ready for consumption when they leave the grower's 
hands, but form the basis for industrial operations 
that make them usable. Farming with live stock rais- 
ing is the characteristic occupation of this country, 
and this is recognized by the Nation and the various 
States in the creation of agricultural departments in 
their plans of administration, by the establishment of 
agricultural colleges, and by various special enter- 
prises intended to promote better farming. The Fed- 
eral Reserve Act and rulings of the Federal Reserve 
Board wisely contain provisions granting special 
privileges to agricultural and live stock paper. Few 
things marketed from the farm can be produced in 
ninety days, which is the maximum maturity for 
other paper eligible for purchase by Federal Reserve 
banks. Agricultural and live stock paper having 
more than three but less than six months to run, how- 
ever, may be received for discount by Federal Reserve 
banks to an amount to be fixed from time to time for 
each Federal Reserve bank by the Federal Reserve 
Board. The marketing of staples such as cotton and 
wheat is a difficult problem. The time they are ready 

311 



312 STANDARD BANKING 

for sale cannot be controlled and distributed through- 
out the year, as in the case of manufactured articles, 
but is regulated by seasons and weather conditions; 
and, with moderate variation, each crop is ready in 
all sections at about the same time. Transportation 
facilities are inadequate to move such vast quantities 
immediately, storage room can not be provided at the 
various mills which will consume it, and prices would 
of course be demoralized if the entire crop were 
thrown on the market at one time. Thus much of 
these staples remains in the hands of producers for a 
time, and is sold gradually. When properly stored 
and otherwise complying with regulations, such 
goods may be used as security for "commodity 
paper," which is eligible for discount by Federal Re- 
serve banks at favorable rates. 

GRAIN ELEVATORS AND WAREHOUSES. 
— "Grain elevator" is a term applied to a storage 
warehouse for grain. Elevators are either owned by 
grain producers, by jobbers, by warehouse companies, 
or by railroad carriers. Some elevators are privately 
owned and used by the owner for storing the grain 
purchased by him. Others are operated as public 
warehouses. Usually the grain of various owners is 
placed in the same bin, care being taken that all of the 
grain deposited in a particular bin is of the same grade 
and quality. Where grain is thus placed in elevators, 
the identity of individual lots is lost. Special arrange- 
ments may be made in the case of public elevators 
for the preservation of identity, but higher storage 
rates must be paid under those circumstances. 



STANDARD BANKING 313 

Country elevators, relatively small in capacity, are 
to be found all over the grain-producing sections of 
the country. They serve the purpose of locally con- 
centrating the crop raised in each small district, be- 
fore the same is shipped to one of the central markets. 
Each farmer hauls his grain to the nearest elevator, 
where it is conveniently weighed and then dumped 
into the elevator. The owners of these country ele- 
vators usually purchase for cash the grain delivered 
by the farmers, and they in turn sell the accumulated 
supply to dealers located in the larger centres. There 
are four principal classes of country grain elevators : 
first those operated by "line companies"; second, 
those owned by local grain dealers ; third, those oper- 
ated by farmers' co-operative associations or compa- 
nies, and fourth, those run by mill owners and malt- 
ing concerns. "Line companies" are corporations 
which own and operate a chain of elevators along 
one or more railroad routes, and which have head- 
quarters in primary markets, to which shipments are 
made of the grain bought and collected from farmers. 
MARKETING GRAIN.— Owners of country 
elevators pay the farmer for his grain as soon as it is 
weighed and deposited. Owners of local country 
elevators, whether they be small dealers or line com- 
panies, obtain financial assistance by borrowing 
money from banks on shipping documents covering 
the grain sent to primary markets. Money is also 
borrowed on grain stored in the elevators, insurance 
certificates being required. The grain which is not 
consumed locally finds its way, sooner or later, to one 



314 STANDARD BANKING 

of the primary markets, which are large distributing 
centres for domestic and export trade in wheat, corn, 
oats and barley. The sixteen leading primary grain 
markets are Chicago, Minneapolis, Kansas City, St. 
Louis, Duluth, Milwaukee, Omaha, Peoria, Louisville, 
Cincinnati, Indianapolis, Toledo, Cleveland, Detroit, 
Wichita and Little Rock. Not only are large supplies 
of grain concentrated at these primary markets, but 
facilities are afforded in these cities for cleaning, mix- 
ing, weighing, grading and storing the grain gathered 
from the numerous local markets. There are grain 
exchanges in these centres, and many milling and 
malting establishments are located there. The ele- 
vator warehouse facilities are naturally larger than 
those found in the smaller cities, and usually these 
warehouses are subject to inspection and supervision 
by State authorities, or by the exchange authorities, 
or by both. Elevators located in the primary markets 
are equipped with machinery for loading and unload- 
ing grain on and from water and rail carriers. Some 
of these elevators are "floating" warehouses and may 
be moved close to ships bringing in grain. They 
are also equipped with hoppers, cleaning machines, 
dryers, blowers and scouring plants. The leading 
seaboard markets are New York, Baltimore, Phila- 
delphia, Boston, New Orleans, San Francisco, Puget 
Sound points, and Portland, Ore. Grain is also ex- 
ported by lake through the Welland Canal and 
through the St. Lawrence river from Chicago, Du- 
luth, Detroit and other ports situated on the Great 
Lakes. 



STANDARD BANKING 315 

STATE AND FEDERAL REGULATION.— 

Some of the States have laws governing the operation 
of public grain elevator warehouses. Many of the 
laws specifically prohibit discrimination in charges 
and services and require licensing and bonding of 
warehouse proprietors. Provisions are also made for 
the issuance of reports showing the amount of grain 
stored, and in some cases it is required that the grain 
should be graded and weighed and certificates issued 
by State grain inspectors. The warehousemen are 
authorized to issue negotiable receipts upon which 
must be stated the quantity and grade of the grain 
stored. Public elevators in Chicago, for instance, are 
also required to register all receipts issued. Under 
the Federal Grain Standards Act, passed in August, 
1916, the Secretary of Agriculture was vested with 
authority to prepare standards of various grades of 
grain that may be traded in. The law also authorizes 
Government supervision of the work of State inspec- 
tors and inspectors engaged by grain exchanges. 

GRAIN EXCHANGES.— The grain exchanges 
operate inspection departments or bureaus, the func- 
tion of which is to inspect the grain stored in the 
terminal elevators. All the grain which is received in 
Chicago or New York is inspected and certificates are 
issued. Exchanges usually publish a list of approved 
elevators. The inspection by the exchanges prevents 
the delivery of unmerchantable grain or of grain of 
a quality inferior to the one called for. The ex- 
changes establish the grades, regulate the mixing, and 
weigh all the grain received. Small fees are charged 



316 STANDARD BANKING 

for the inspection. Canadian grain received "in 
bond" for trans-shipment to foreign ports is not in- 
spected, but is only weighed. Members of the grain 
exchanges transact business both in "spots" and in 
"futures." The relative prices at the different mar- 
kets are largely influenced by the cost of transport- 
ing the grain, but also by other factors, such as the 
local supply and demand, the world's supply and de- 
mand, and other considerations governing price fluc- 
tuations in commodities. Dealers in grain, and the 
millers who produce flour, utilize the machinery of 
the exchange for "hedging" purposes — just as cotton 
merchants and spinners use the cotton exchanges to 
protect themselves against price movements. 

GRAIN LOANS.— Grain stored on the farm 
may be covered by a mortgage and thus form the 
basis for a loan by a country bank. The farmer sells 
his grain for cash to a local buyer. The buyer usually 
owns or leases a grain elevator, which he fills as the 
farmers haul in their products. He may have suffici- 
ent capital to carry on his business, but as a rule 
borrows some money from his local bank. The loan 
may be made on his general assets or secured in some 
way, but as the grain he buys is not in a public ware- 
house and is constantly coming in and going out, it is 
not the most desirable class of collateral. He will 
ship out about as rapidly as possible, using the capac- 
ity of his elevator to take up the slack between re- 
ceipts from the farmers' wagons and shipments as 
freight cars are furnished, for transportation, by 
the railroads. 



STANDARD BANKING 317 

SALES MADE BY GRAIN BUYERS.— The 
buyer will sell mostly to grain dealers in the nearest 
grain center. Sales will be made on contract or on 
consignment. If on contract, the buyer agrees to 
furnish a given quantity of grain of a certain kind 
and quality at a certain price and within a certain 
time. If on consignment, the buyer sends the cars to 
grain dealers who sell to the best advantage on the 
open market, and account for the proceeds to the 
local buyer, less the commission. In either case the 
grain dealer finances the local buyer during the time 
the grain is in transit from the country elevator to the 
city. Assuming that he is satisfied as to the buyer's 
character and financial responsibility, the grain dealer 
will authorize him to draw a sight draft on him, with 
shipper's order bill of lading attached, for nearly the 
full value of the car of grain. The buyer deposits 
the sight draft in his local bank, which may or may 
not charge him something for making the proceeds 
immediately available, and thus enabling him to pay 
for more grain. The draft will be presented to the 
grain dealer in the city one day or several days before 
the car of grain arrives by freight. On the evidence 
of the attached bill of lading, the grain dealer pays 
the draft on presentation, and when the car arrives 
adjusts with the buyer any difference between its net 
value and the amount of the draft. 

CREDIT GRANTED BY BANKS.— It is evi- 
dent that a grain dealer doing a large business will 
soon have a considerable sum of money advanced on 
cars in transit. He will probably arrange with his 



318 STANDARD BANKING 

bank for a loan up to a certain amount on his un- 
secured note, called his "open line/' and for a certain 
additional amount to be secured by bills of lading or 
warehouse receipts. Order bills of lading are receipts 
from railroads or other common carriers covering 
given quantities of certain goods to be transported 
and delivered only on the order of the shipper. The 
country buyer endorses the bills of lading before at- 
taching them to these drafts. While lacking some 
qualities which would make them perfect negotiable 
instruments, the order bills of lading are so regarded 
in practice, and are readily accepted as collateral to 
loans to grain dealers. Such loans are nearly always 
made payable on demand, as the total amount being 
used by the borrower varies from day to day. Sub- 
stitutions of collateral are made daily also, as some 
cars arrive and the bills of lading are taken out, and 
others given the bank on new cars in transit. It is 
not uncommon for a bank to deliver to the borrower 
on his trust receipt collateral of this kind for which he 
will return substitutes later in the day. 

WAREHOUSE RECEIPTS AS COLLAT- 
ERAL. — The grain dealer may sell the grain he re- 
ceives to mills or other dealers locally, in which case 
he receives immediate payment. Or he may sell to 
mills or dealers in some other city, in which case he 
will draw sight draft with bill of lading attached, 
much as the country buyer did in shipping to him. 
If public warehouse facilities permit, some dealers and 
mills will store grain for future sale or use. While 
theoretically warehouse receipts cover particular 



STANDARD BANKING 319 

grain in certain bins or tanks, it is necessary to move 
wheat frequently to prevent spoilage, and thus differ- 
ent lots of wheat in some places become mixed with 
other lots of the same grade. Where delivery of grain 
in Exchanges or Boards of Trade is made by means 
of warehouse (elevator) receipts, it is customary to 
require that bond be furnished to the Board of Trade 
by elevator operators and that weighers for the Board 
check all grain in and out, on whose reports receipts 
issued by the elevator are registered by the secretary 
of the Board. Elevators so bonded and controlled 
are called "regular." Warehouse receipts accom- 
panied by insurance policies are thus good collateral. 
Banks loan on them freely with margins of, say, ten 
to twenty per cent. Loans on elevator receipts are 
more likely to be time loans, and are frequently sold 
through brokers or to banks in other cities who are 
seeking investments. This is particularly true when 
the local banks are carrying full lines for the borrower 
or are loaned up closely. As substitution of collateral 
is often desired, it is a common arrangement for the 
local bank to hold the collateral on notes sold else- 
where, issuing collateral trust certificates to accom- 
pany properly identified notes. These certificates 
show that the local bank holds collateral of estimated 
value sufficient to cover the loan and is authorized 
to exchange same to the borrower for others of equal 
value. Notes of good firms so secured are good invest- 
ments. Loans on grain stored in public warehouses 
are classed by Federal Reserve banks as "Commodity 
Paper" and given a preferential discount rate. 



320 STANDARD BANKING 

Cotton Loans 

COTTON RAISERS.— Cotton is raised in the 
South either by the home-owner, to whom the planta- 
tion belongs, or by the tenant farmer, who rents the 
cotton field from the land-owner. The payment of 
money rent is sometimes, but not generally, practiced, 
and the tenant farmer usually arranges to pay his 
landlord on a percentage basis of the crop. The two 
main methods are (1) the landlord and tenant agree 
that the proceeds of the crop shall be divided evenly, 
the land-owner furnishing the land, houses, horses, 
feed and the tools, and the tenant supplying the labor; 
(2) the landlord agrees to furnish only the land, in 
which case the terms provide that the tenant shall 
pay over to the landlord only one-quarter of the net 
proceeds of the crop. The Southern States have 
stringent lien laws which protect the landlords. Ar- 
rangements for renting cotton farm land are usually 
perfected before Christmas, and the tenant assumes 
occupancy on the first of the year. Besides the land, 
he is given possession of a small house, fitted with a 
stove, a barn and pasturage. A tenant farmer is sup- 
posed to have the necessary implements and live 
stock. 

MONEY NEEDS FOR PLOWING.— Having 
possession of the land, the tenant farmer begins plow- 
ing. Whatever little money he may have saved up 
from the previous year's cotton crop is soon spent for 
food, and the farmer is soon obliged to buy on credit. 
He opens an account with a local supply house. The 



STANDARD BANKING 321 

store may give him an open credit, or it may require 
the farmer to give his note, payable in the fall. In 
certain cases the store insists that the notes be secured 
by a chattel mortgage on the farmer's implements. 
Frequently the farmer, in order to obtain credit from 
the supply house, is obliged to mortgage his interest 
in the growing crop. Sometimes he goes to his bank 
and obtains credit by executing such a mortgage. 
The money borrowed from the bank he uses to buy for 
cash instead of opening credit at the supply house. 
The owner of the supply store in the South, having 
received little cash from his customers, is obliged to 
buy his goods also on credit. The usual practice is 
for him to either discount his note at the bank, de- 
positing as collateral a bundle of notes he had received 
from his tenant-farmer customers, or else to present 
his own note to the wholesaler with the bundle of 
customers' notes. 

PLANTING AND PICKING.— The planting 
of cotton begins either in the latter part of March or 
early in April. The plant begins to grow in May or 
June, and then it is time to begin "chopping," that is, 
to cut out the surplus growth, reducing the sprouted 
stalks to a "stand," remove the weeds and clean up 
the soil. To do this work the farmer will hire labor, 
but in most cases he and his family will do their own 
"chopping." After the "chopping" and until picking 
time the farmer devotes his efforts to cultivating the 
field, and this process keeps him busy during the 
months of July and August. In Texas, cotton pick- 
ing begins in the middle of July, but in other parts of 



322 STANDARD BANKING 

the cotton belt the picking season does not start until 
about the first of September. Men, women and chil- 
dren, many of them colored, are employed in picking 
cotton. They are mostly piece-workers, few being 
paid on a weekly wage basis. The cotton farmer, 
having waited many months for the fruits of his labor, 
uses all haste to rush his first bale to market in order 
to get cash for it. The rush to market of first bales 
invariably creates a currency strain, because the small 
country banks are suddenly called upon to pay out a 
large sum of money in cash. The farmer needs the 
money to pay his laborers. 

GINNING OF COTTON.— Cotton, as it is 
picked, is hauled in loose shape by the farmer to the 
gin, where the lint is separated from the seed. In 
some cases the owner of the gin retains part of the 
ginned cotton as compensation for his services, but 
in other cases the ginner is paid in cash, so much per 
hundred pounds. After ginning, the cotton is put 
through the press, from which it comes out in neatly 
packed and strapped bales. 

MARKETING COTTON.— After the cotton is 
packed in bales the farmer takes it to market, where 
he disposes of it to "cotton factors," or to "cotton 
buyers." Cotton factors act as selling agents for the 
farmer. Sometimes they sell the cotton immediately, 
sometimes they hold it, and sometimes they ship it 
to a central market, where better opportunities are 
presented for disposing of the staple at advantageous 
prices. These cotton factors charge the farmer for 
storage, for transportation, for insurance, and a com- 



STANDARD BANKING 323 

mission for their services. In recent years the cotton 
factorage business has become proportionately less 
important than heretofore. Cotton buyers are repre- 
sentatives of cotton merchants and cotton exporters 
whose principal offices are located in the larger cities 
in the South or in New York. Cotton buyers are 
stationed in small towns throughout the South where 
it is convenient for the farmers to bring their cotton. 
The farmer hauls his few bales to a local market 
where he meets the buyer. The latter inspects the 
cotton by cutting into the bale to draw samples, and 
then quotes the price he is willing to pay. The farmer, 
if dissatisfied with the offer, may submit his cotton 
to sampling by another buyer who may make a more 
attractive offer. 

COTTON TICKETS.— If buyer and seller agree 
upon a price the farmer is handed a ticket upon which 
the purchaser marks the price per pound that is to be 
paid. The farmer takes his cotton to a designated 
weigher, who marks on the ticket the weight of each 
bale. The cotton buyer does not always give the 
farmer a check for the cotton, but often expects him to 
take the "ticket" to the bank after it is properly filled 
out by the weigher. When the farmer presents the 
ticket to the local bank, the bank figures out the 
money due him, country banks being equipped with 
cotton tables which facilitate calculating the value of 
each bale. The farmer is usually paid in cash, but 
sometimes he is advised to permit the bank to credit 
the proceeds of the sale of the cotton to his account in 
that institution. 



324 STANDARD BANKING 

BANK ADVANCES TO COTTON BUYERS. 
— The cotton buyer arranges with his bank that it 
should pay upon presentation of the tickets, but at the 
same time the cotton buyer usually does not have the 
necessary funds to his credit in the bank, and conse- 
quently the bank is called upon to make advances. 
The bank either permits the cotton buyer to overdraw 
his account during the day and give a note for same 
at the close of day — retaining the cotton tickets as 
security, — or else the cotton buyer is called upon to 
give a draft on the cotton merchant or exporter, 
whose agent he is. These cotton tickets are tanta- 
mount to certificates of ownership, and cotton cannot 
be moved without presentation of the tickets. The 
financial strain in the South resulting from the pro- 
duction of the cotton crop begins about June 1st in 
Texas and reaches its height about August 1st. The 
seasonal demand for money invariably necessitates 
borrowing by Southern banks from their correspon- 
dents in the East. In view of the fact that during the 
cotton picking season producers are in need of cash to 
pay their help, Southern banks not only require bank 
credits but they are obliged to call upon their central 
reserve city correspondent to ship them currency. 

COLLATERAL FOR BANK LOANS.— The 
country banks borrowing in New York for crop pur- 
poses usually forward to their correspondents collat- 
eral in the form of notes, drafts and chattel mort- 
gages which have been received from merchants and 
farmers. The Southern bank usually executes its note 
and sends the collateral in a large bundle. The New 



STANDARD BANKING 325 

York bank examines the same, but hardly ever has 
occasion to touch it, inasmuch as the Southern bank is 
always ready to take up its note at maturity. In the 
event that it is not in position to do so, the New York 
institution will agree to a renewal of the note for 
another month or two. Money borrowed by Southern 
banks in August and September is usually paid by the 
end of November. 

LOANS ON COTTON IN WAREHOUSES.— 
While the cotton buyers purchase cotton from the 
farmers as soon as the cotton is ginned and baled, 
they are not in a position to dispose of the staple un- 
til they accumulate a substantial shipment. Conse- 
quently, pending the delivery of cotton to American 
mills and to foreign spinners, the cotton merchant 
(for whom the buyer has been acting) is obliged to 
place his cotton in storage in warehouses, cotton yards 
and on compress platforms. Requiring funds to carry 
the same, or to buy more cotton, the merchant ob- 
tains a loan from his bank, secured by a warehouse 
receipt. Bankers who are asked to advance money 
on warehouse receipts for cotton do not only take 
into consideration the character and responsibility of 
the borrower, but they examine into the safety of % the 
warehouse and the financial standing of the ware- 
houseman. Warehouses, in issuing receipts, usually 
inspect the cotton, weigh the bales and furnish a re- 
ceipt describing the quantity and quality of the cotton 
placed in their care. Congress passed a bill in August, 
1916, which provides for the Federal licensing and 
supervision of warehouses where agricultural prod- 



326 STANDARD BANKING 

ucts, such as cotton and grain, are stored. It is be- 
lieved that banks will now be willing to advance 
money on warehouse receipts more freely than they 
have been in the past. 

ASSISTANCE OF FEDERAL RESERVE 
BANKS. — Notes and drafts secured by approved 
warehouse receipts for cotton are rediscountable at 
the Federal Reserve banks. A special rate for this 
character of paper, lower than the trade acceptance 
rate for the same maturity, has been established by 
the Reserve banks in the South with the approval of 
the Federal Reserve Board. This special "commodity 
rate" applies to paper not having more than 90 days 
to run. The assistance rendered by the Reserve banks 
has made it possible for banks in the South to charge 
lower rates to customers who elect to carry cotton in 
warehouses pending the receipt of orders for the 
same, or in the hope of obtaining higher prices for 
the staple at a later date. By being able to rediscount 
paper secured by warehouse receipts, the banks have 
been placed in a position where they have a larger 
supply of funds available to borrowers. In recent 
years it has been customary for the Secretary of the 
Treasury to make deposits of Government funds with 
Southern banks during the crop-moving seasons. 
This has had the effect of instilling confidence in 
growers and merchants, and has helped in preventing 
or abating money stringencies. Since December 31, 
1915, instead of depositing Government funds with 
National banks, the Secretary of the Treasury has 
made deposits in Federal Reserve banks in the South. 



STANDARD BANKING 327 

COTTON MERCHANTS AND EXPORT- 
ERS. — Concerns which buy cotton from farmers and 
factors are known as "spot houses." They deal in all 
grades of cotton and sell to domestic as well as for- 
eign spinners. Many of these houses maintain offices 
or headquarters in New York and some operate from 
New Orleans, Dallas, Galveston, Memphis and other 
cities in the South. The price offered the farmer by 
the buyer who examines the cotton largely depends 
upon the quality of the cotton. The merchant or ex- 
porter is very much concerned with the grade and 
length of cotton, for the reason that spinners, in mak- 
ing purchases, usually specify in detail the character 
of cotton they require. One grade may be available 
for one mill and be practically of no value to another. 

CLASSIFYING COTTON. — The work of 
grading or classifying cotton is a specialty. Experts 
are not common. In many instances a single bale of 
cotton will contain several grades, but as a rule some 
one particular grade is found in preponderance. 
Moreover, cotton varies according to the place of 
production, and it is the function of the spot dealer 
to be familiar with all grades and markets, and to be 
able to supply the exact grade required by particular 
customers. When a spot house receives an order for 
100 or 1,000 bales of a particular grade, it must 
gather the necessary quantity together from all parts 
of the South if it finds that it has not the required 
cotton in its store or warehouse. 

FINANCING EXPORTS OF COTTON.— 
When the cotton exporter in the South receives an 



328 STANDARD BANKING 

order to ship 1,000 bales to Liverpool at a fixed price, 
he delivers the cotton to a railroad or to an ocean 
carrier, if he happens to be located at a seaport, and 
secures a through bill of lading. The price deter- 
mined upon is usually what is known as "C. I. F. & 
6%," i. e., cost, insurance and freight, and 6 per cent 
for tare deducted. The shipper has the cotton in- 
sured. He draws a 60 or 90 day draft, payable to 
himself, for the invoice value of the cotton. This he 
indorses on the back in blank. The draft or bill of 
exchange is drawn either upon the foreign cotton 
merchant or spinner to whom the cotton is being 
shipped or upon a foreign bank which has an arrange- 
ment with the purchaser to accept his bills. The 
Southern cotton shipper sells the draft with the at- 
tached bills of lading and insurance certificate to his 
bank, or sends the draft with the documents to a 
broker in New York, who sells the draft to some New 
York institution. The shipper must pay a small com- 
mission to the bank and a commission to the broker. 
The bank buying the draft pays for it in dollars, ac- 
cording to current rates of exchange, the equivalent 
of whatever foreign money the draft may call for. 
The bank buying the bill forwards it to a correspon- 
dent abroad, who presents it for the purposes of "ac- 
ceptance" to the purchaser of the cotton or to the 
latter's bank. After the bank stamps its acceptance 
upon the bill the same is sold and bought in the open 
market until maturity, when it is paid. 

COTTON EXCHANGES. — In the United 
States there are only two markets for "cotton fu- 



STANDARD BANKING 329 

tares," one in New York and the other in New Or- 
leans. Members of the cotton exchanges located in 
these two cities deal in contracts for the future de- 
livery of cotton. The contract traded in is a basic 
one, that is, it provides for the delivery of cotton of 
a basic grade, middling, and provision is made for 
adjustments in cases where the cotton actually ten- 
dered for delivery is not of the basic grade but con- 
sists of a number of bales of a higher grade and a 
number of bales of a lower grade. Under the form 
of contract traded in, the seller has the option to de- 
liver any of the established grades, price adjustments 
being made for differences in grades in accordance 
with relative prices for the various grades established 
by the "fixed differences" of the exchange. The 
functions of the exchanges are to provide a continu- 
ous market, to disseminate trade and crop informa- 
tion, and to afford an organization where future con- 
ditions and events may be systematically discounted, 
all of which tend to establish world prices for the 
commodity. Moreover, the exchanges are used for 
speculation. Activity along those lines helps to estab- 
lish a proper price level and incidentally aid in dis- 
tributing the money losses and profits involved in 
assuming the inevitable economic risks of changes 
in value. 

PROCESS OF HEDGING.— Besides furnishing 
means for establishing market prices, one of the chief 
services rendered by cotton exchanges is that of pro- 
viding the necessary machinery for hedging. Hedg- 
ing is in the nature of insurance or protection against 



330 STANDARD BANKING 

loss occasioned by price fluctuations. The hedging 
practice is resorted to by cotton merchants, by spin- 
ners and by manufacturers of cotton goods. A 
Southern cotton merchant, contracting in July to de- 
liver 1,000 bales of cotton to a spinner in January, 
will frequently instruct his broker on one of the ex- 
changes to buy for him a "future contract" for the 
same quantity of cotton deliverable in January. If 
by the time the merchant delivers the cotton to the 
spinner the price has advanced two cents a pound 
above that at which the contract was made, the mer- 
chant stands to lose two cents a pound. He, there- 
fore, instructs his broker to sell out his "futures" on 
the exchange. Inasmuch as the price of "futures" 
and the price of "spots" usually fluctuate in unison, 
it is safe to assume that the loss the merchant suf- 
fered in the one transaction he will have wholly or 
partially recouped by the profit on the other. The 
prices paid to growers and the prices at which cotton 
is sold to domestic and foreign spinners are based 
largely upon the price of futures quoted on the ex- 
changes. 

UNITED STATES COTTON FUTURES 
ACT.— As amended by the Act of August 11, 1916, 
the United States Cotton Futures Act of February 
18, 1915, provides for Government regulation of trad- 
ing in contracts for the future delivery of cotton. 
Briefly, it imposes certain requirements for the con- 
duct of business on the cotton exchanges, and im- 
poses a penal tax of two cents per pound in the event 
that transactions are not carried on in accordance 



STANDARD BANKING 331 

with the specifications. The law vests with the Sec- 
retary of Agriculture authority to prepare and pro- 
mulgate standard grades of cotton. The law also 
makes provision for the settlement by the Agricul- 
tural Department of disputes arising between buyer 
and seller. The amendment to the act provides for 
trading in specific contracts. 

Live Stock Loans 

STOCK RAISING.— Live stock raising is one 
of the most important factors in the economic life 
of our nation. Horses and mules as work animals are 
almost indispensable to agriculture; sheep and hogs 
produce great wealth in meat, wool, lard, etc.; but 
cattle are the greatest source of income, giving us beef 
for ourselves and for export, hides for leather, milk, 
butter, cheese and the innumerable by-products of 
packing houses which increase returns so largely. 
They are the basis for many loans and of great in- 
terest to bankers. Farmers are realizing more keenly 
and more generally than ever that the best way to 
market corn, hay and other feedstuffs, is on the hoof, 
or as dairy products, and that by so doing they not 
only obtain the greatest return for their salable crops, 
and use some which would otherwise be worthless, 
but they can return to the soil much of its fertility. 
Cattle are raised in every State in the Union, both 
for beef and for dairy purposes. It is claimed that 
no breed of cattle combines satisfactorily milk and 
beef qualities, and for convenience we will consider 
them divided into these two classes. 



332 STANDARD BANKING 

DAIRY CATTLE.— Scientific dairying is high- 
ly developed in Wisconsin, Minnesota, Ohio, Penn- 
sylvania, New York, Iowa and certain other States, 
where it has been carried on successfully for many 
years, and herds of registered and other high-grade 
cattle are the rule. The income from animals of this 
type can be anticipated with reasonable certainty. 
Loans to owners are commonly made on their show- 
ing of assets, including cattle, and not on chattel 
mortgage security. Such loans to experienced and 
responsible men are most desirable. Dairying is a 
growing industry in many States in addition to those 
named. The rapid increase of population in cities, 
and the stronger demand universally for milk and 
milk products of high sanitary standard, have made 
it increasingly profitable. The establishment of 
creameries and condensaries has helped greatly. In 
some sections, such as Kansas and Oklahoma, bank- 
ers have brought in good young cows from well- 
known dairy herds and sold them, one or two or three 
to a man, lending him the whole amount of the pur- 
chase price with a mortgage on the cows as security. 
When care is used in selecting the men with whom 
this arrangement is made, it soon results in a profit 
to both banker and farmer, and, better still, helps in 
the upbuilding of the community from which the 
bank draws its support. In new countries the wife's 
few cows (with the help of the chickens) have often 
brought in the only cash income the family had while 
they established themselves and raised a crop. Agri- 
culture received the man's thought and effort for a 



STANDARD BANKING 333 

few years because it required less capital and brought 
quicker returns than livestock raising. When his 
finances permitted he branched out into fattening 
some cattle on his grain and thus making two profits. 
Dairying came much later on, when the price of milk 
advanced, its marketing became convenient and the 
continuous income offered attractions. So all through 
the farming section of the central plains States will 
be found these stages of evolution; not that dairying 
crowds out feeding, but it finds its own place, stays, 
and adds to the growing wealth of our nation. Bank- 
ers may sustain losses on loans for pretentious at- 
tempts in dairying by inexperienced men with high- 
priced cattle, but loans of moderate amounts to capa- 
ble and industrious men for the purchase of dairy 
cows are thoroughly sound. 

BEEF CATTLE.— The raising of cattle for beef 
purposes is likewise a science. It must be remem- 
bered that while a great many animals in the aggre- 
gate remain in the hands of their first owners until 
sold for slaughter in a local abattoir, others are sold 
half a dozen times and are shipped to and from mar- 
ket three or four times before killed. These markets 
are the stockyards where packing houses are located. 
The large packing houses will buy at all times cattle 
of any age or weight, whether young calves for veal 
or old ("canner") cows and ("bologna") bulls. The 
prices offered fluctuate constantly, but a man who 
wants to sell is sure when he ships cattle to the stock- 
yards that he will find a buyer. Nor are the packing 
houses the only buyers at the stockyards. A farmer 



334 STANDARD BANKING 

or cattle man who wants a certain number of a cer- 
tain kind of cattle goes in person or instructs a com- 
mission firm in whom he has confidence to buy them 
for him on the market. It not infrequently happens 
that he will buy and ship back home cattle which 
were sent in from his own neighborhood. One man 
may bring in steers which he thinks are thoroughly 
fat. Another man sees them and believes that by 
judicious feeding he can put more weight on them 
in a short time, and profit by a fancier price as well 
as the added number of pounds. There are specula- 
tors there, too, ready to buy nearly anything on 
which they have a chance to make money. Scattered 
animals of quality unlike others in the same lot, when 
brought into a bunch similar to themselves, sell to 
better advantage. Shipments received late in the 
day may sometimes be bought cheap enough to pay 
to carry them overnight and leave the speculator a 
profit. The market price is affected by the number 
of cattle offered for sale. This in turn is affected by 
the time of year and by the season's weather condi- 
tions. Drought resulting in lack of stock water, 
dried up pastures, and short feed crops, will send 
cattle to market; a favorable season will keep them 
away longer. Conditions which are only local do 
not make much difference in the price, as the market 
reflects the average for the whole tributary territory, 
but the general crop situation has quite an influence. 
LOANS ON RANCH CATTLE.— It is evident 
that since ranch cattle are handled in rather large 
herds the funds of small local banks are entirely 



STANDARD BANKING 335 

inadequate to carry the necessary loans. This want 
was at one time largely met by commission firms at 
the markets, who made loans to buyers of cattle 
through them, endorsed the notes and sold them 
wherever they could find buyers. As the paper came 
to be in demand, the firm found it possible to make 
a brokerage on the loans and commissions on the 
purchase and sale of the cattle. Desire to do a large 
volume of business and some unfavorable seasons re- 
sulted in failure on the part of some firms to protect 
endorsed paper and brought these loans into disre- 
pute. There are good firms doing a conservative and 
profitable business now in both commission and 
brokerage lines, but in late years the tendency has 
been to make them separate businesses. Live stock 
loan companies have been incorporated with organi- 
zations equipped to inspect the cattle mortgaged and 
all conditions which influence the success of the 
undertaking. 

STOCKER LOANS.— A loan on aged steers to 
finance their final fattening is about as certain of nat- 
ural liquidation at maturity as can be found. Younger 
steers are practically always in demand in some 
parts of the country and are hardier than cows. 
Hence natural division of cattle loans is into (1) those 
on steers one year or more old and (2) those on stock 
cattle, consisting of breeding cows, heifers, calves 
and bulls. Loans on stock cattle, when made to re- 
liable and capable men, are about as certain of ulti- 
mate payment as any others, but it is not so certain 
that payment can be forced at maturity without in- 



336 STANDARD BANKING 

convenience and possible loss to the borrower. Un- 
favorable seasons, unusual death losses among the 
calves, a bad market, etc., may leave the deal without 
profit, or worse, if immediate sale must be made; but 
by selling some, and perhaps extending the time an- 
other six months or a year, to increase the calf profit, 
the deal may eventually turn out very well. Local 
banks may well make loans of this kind, as they know 
the customers thoroughly, are on the ground all the 
time, and can step in and take the cattle if necessary 
before a serious loss occurs. Such loans, with local 
bank endorsements, are readily taken by bank corre- 
spondents to an extent based largely on their bal- 
ances. The steer loans can be obtained from larger 
banks or from cattle loan companies. The loan com- 
panies, however, do make loans on stock cattle very 
frequently, and when there is a surplus of money and 
the demand for paper is great, buyers take the notes 
readily. On the whole, "cow loans" are not quite so 
good for the distant purchaser and should be kept as 
close at home as possible. 

STEER LOANS.— The largest part of the paper 
sold by the loan companies is secured by steers. 
Without forgetting that loans on other classes of 
cattle are handled similarly, a steer loan may be con- 
sidered as typical. In April or May a cattleman of 
experience goes to the loan company where he is 
acquainted and tells them he wants to borrow thirty 
thousand dollars to buy two-year-old steers, for which 
he has sufficient pasture with good water to carry 
them until fall. If he has cash on hand for part of 



STANDARD BANKING 337 

the cost price, so much the better, but a considerable 
margin will not be required, and sometimes the whole 
purchase price will be loaned. This is because the 
lender looks at some other things in addition to the 
property to be mortgaged. The man himself is the 
first consideration; his record as a successful handler 
of cattle, and his reputation for honesty and industry. 
There is a saying that "the brand on the man is more 
important than the brand on the steer." The second 
question is, are the cattle worth the money, and of 
such a class as will increase in value through natural 
growth and reasonably insure payment of the debt 
when due? Third, has he made ample provision for 
taking care of the steers during the life of the loan? 
Fourth, what other assets has the borrower? As a 
matter of record and to set these points out in detail 
for consideration, a statement will usually be asked 
for. Items to be found in such statements include 
name, age, legal residence, with Section, Township, 
Range, County, State and Post Office; under assets, 
the personal property, giving number of steers one 
year old, steers two years old, steers three years old, 
steers four years old and over, heifers one and two 
years old, cows, calves (with year of birth), bulls, 
horses, mules, sheep, and hogs, the per head and total 
value of each class being shown, feed on hand 
(itemized), cash on hand, and other personal prop- 
erty, and also real estate, including homestead less 
exemption and other real estate less encumbrance; 
under liabilities, full details of any encumbrance on 
live stock, other borrowed money, amount due rela- 



338 STANDARD BANKING 

tives and other debts; under general information, the 
number of acres and kind of land under lease, the 
rental price, statement as to any judgments or suits 
pending, reference to other persons informed as to 
borrower's financial condition, number of years lived 
at present location, former residence, whether surety 
on any notes or bonds, etc. 

PURCHASE AND DELIVERY.— The applica- 
tion having been considered favorably, the cattleman 
arranges his purchase. The delivery of the cattle to 
him, payment therefor to the seller, inspection of the, 
cattle by the agent for the loan company, execution 
and delivery of the note and mortgage, and filing of 
same for record in the proper place or places, will be 
as nearly simultaneous as possible. In this instance 
the loan company takes six notes of five thousand 
dollars each, all secured by the one mortgage. This 
is so that one or more of the notes may be sold to cus- 
tomers who could not carry as much as thirty thou- 
sand dollars of any one maker's paper. These are 
called "split loans." A few bankers will not buy notes 
unless all of the loan is owned by them, as they be- 
lieve there is a possibility of loss due to the diverse 
interests, if anything goes wrong, and quick action to 
a single purpose is necessary. Other buyers rely on 
the loan company's endorsement and accept "split 
loans" without question. Banks and others seeking 
investments write to the loan company for paper. 
The notes are sold them, endorsed by the loan com- 
pany, at a lower interest rate than the company 
charged the borrower. Copies of the mortgage and 



STANDARD BANKING 339 

of the maker's statement may or may not accompany 
each note. The loans run about six months, being 
chiefly made in April or May and September or Octo- 
ber. This is partly because banks are unwilling to 
put their money out for longer periods, and partly 
because these are the seasons of change in cattle own- 
ership, when one man takes his profit to date and 
another begins the next process in the growing of 
the animal. When the notes come due, the loan com- 
pany must provide for their prompt payment to the 
holders, and this whether the cattle are sold and 
money paid by the borrower or not. It must be pre- 
pared to carry some paper for a short time with its 
own funds. The company will have kept track of 
the cattle during the six months, watching for any 
unfavorable condition or any dishonesty, and will 
know when they can be sold. If the borrower wants 
to keep them six months longer, the company may 
consent, and so make a new loan on the same cattle 
to the same man. Otherwise they are put on the 
market and enough of the proceeds turned over to 
the loan company to satisfy its claim. If the proceeds 
should be insufficient, the borrower must make up 
the difference in some other way or the company 
loses. 

FEEDER LOANS.— The paragraphs just pre- 
ceding refer to cattle in pastures where grass is prac- 
tically the only food they have except perhaps some 
cotton seed cake in bad weather. Mention has been 
made of cattle going to the feed lots of Kansas, Iowa, 
Illinois, etc., when they have about reached maturity, 



340 STANDARD BANKING 

to be fattened for killing. In addition to the South- 
ern bred cattle brought in, there are, of course, many 
which have been raised in small bunches in these 
central States. Often superior individual attention 
and careful feeding matures them at an earlier age 
than the Texas steer. Wherever they have been 
raised, they may be fattened in pastures on grass in 
the spring and summer, but those to be fattened in 
the feed lots through the winter must be fed corn, 
alfalfa, silage or other roughness, and the like. Cows 
and heifers (particularly spayed heifers), are sus- 
ceptible to very profitable feeding of this kind, and 
loans on them for that purpose are freely made both 
by local banks and by loan companies. But here 
again the steer loan has a little the preference. His 
superior resisting power in bad weather, if nothing 
else, gives him an advantage, according to general 
opinion. Banks in the feeding country are larger and 
more numerous than in the South, and can handle a 
greater proportion of the loans without outside help. 
The loans are likely to be smaller, too, as the cattle 
will be handled in bunches of moderate size. Never- 
theless, the loan companies do a considerable business 
with the larger borrowers and with those in communi- 
ties where the number of feeders is too great for the 
local bank. Loans by the companies are handled in 
the manner already described. If the borrower has 
plenty of feed and has provided water and shelter, 
the full purchase price is often loaned. There are no 
requests for renewal of this paper, for the cattle must 
go for killing when ready, almost regardless of prices. 



STANDARD BANKING 341 

The advantage of certain maturity is had, but at the 
sacrifice of any opportunity to work out of a bad 
situation. Hogs are often put in the feed lot to fol- 
low the cattle, and the profit in feeding is not infre- 
quently in the hogs. They are sometimes included 
in the mortgage on the cattle. Fertilizer from the 
feed lot, when spread on the fields, is a most valuable 
return to the farmer, which should not be overlooked 
in figuring his earning on a feeding operation. 

Land Banks 

FEDERAL FARM LOAN ACT.— The Federal 
Farm Loan Act, which became effective July 17, 1916, 
provides that there shall be established at the seat of 
Government in the Department of the Treasury a 
bureau charged with the execution of this Act and of 
all Acts amendatory thereof, to be known as the Fed- 
eral Farm Loan Bureau, under the general supervi- 
sion of a Federal Farm Loan Board. The Act further 
provides for the creation of twelve Federal Land 
banks and permits the establishment of any number 
of joint-stock land banks for the purpose of making 
loans at reasonable rates of interest, for long periods 
of time, on farm lands. The Act further provides that 
the United States shall be divided into twelve farm 
loan districts, and a Federal Land bank with a sub- 
scribed capital stock of not less than $750,000 shall 
be established in each district. Each Federal Land 
bank may establish branches in its district. Within 
thirty days after the capital stock is offered for sale it 
may be purchased at par by anyone. Thereafter, the 



342 STANDARD BANKING 

stock remaining unsold shall be bought by the Sec- 
retary of the Treasury for the United States. It is 
provided, however, that the Government shall not re- 
ceive any dividends on its stock. Ultimately, it is in- 
tended that all the stock in the banks shall be owned 
by the associations of borrowers* 

NATIONAL FARM LOAN ASSOCIATIONS. 
— The Act provides for the creation of local National 
farm loan associations through which it is contem- 
plated that the Federal Land banks shall make their 
loans. In the event that a local loan association is 
not formed in any locality within a year, the Federal 
Farm Loan Board may authorize a Federal Land bank 
to make loans on farm land through approved agents. 
Ten or more persons who own and cultivate farm land 
qualified as security for a mortgage loan under the 
Act, or who are about to own and cultivate such land, 
may form such an association, provided the aggre- 
gate of the loans desired by the membership is not 
less than $20,000. Each member must take stock in 
his association to an amount equivalent to 5 per cent, 
of the amount he wishes to borrow. This stock the 
association holds in trust as security for the mem- 
ber's individual loan. The association, in turn, when 
applying for money from the bank, must subscribe for 
stock in the bank to an amount equivalent to 5 per 
cent, of the sum it wants to obtain for its members. 
This stock is held in trust by the bank as security 
for the loans it makes through the association. If a 
prospective borrower has no money with which to 
pay for the stock which he takes in the association, 



STANDARD BANKING 343 

he may borrow the price of that stock as a part of the 
loan on his farm land. 

HOW LOANS ARE OBTAINED.— A member 
of a National farm loan association, before obtaining a 
loan, must first fill out an application blank supplied 
to the loan association by the Federal Farm Loan 
Board. This application blank and other necessary 
papers will then be referred to a loan committee of the 
association which must appraise the property offered 
as security. Such application as is approved by the 
loan committee is then forwarded to the Federal Land 
bank and must be investigated and reported on by a 
salaried appraiser of the bank before the loan is 
granted. This appraiser is required to investigate the 
solvency and character of the prospective borrower as 
well as the value of his land. When a loan is granted 
the amount is forwarded to the borrower through the 
loan association. The Act specifically defines the pur- 
poses for which loans may be obtained as follows: 

(a) To provide for the purchase of land for agri- 
cultural uses. 

(b) To provide for the purchase of equipment, 
fertilizers and live stock necessary for the proper and 
reasonable operation of the mortgaged farm ; the term 
"equipment" to be defined by the Federal Farm Loan 
Board. 

(c) To provide buildings and for the improve- 
ment of farm lands; the term "improvement" to be 
defined by the Federal Farm Loan Board. 

(d) To liquidate indebtedness of the owner of 
the land mortgaged, existing at the time of the or- 



344 STANDARD BANKING 

ganization of the first National farm loan association 
established in or for the county in which the land 
mortgaged is situated, or indebtedness subsequently 
incurred for one of the said purposes. 

Loans may be made only on first mortgages on 
farm land. Only those who own and cultivate farm 
land or are about to own and cultivate such land are 
entitled to borrow. No individual can borrow more 
than $10,000 or less than $100. No loan may be made 
for more than 50 per cent, of the value of the land 
mortgaged and 20 per cent, of the value of the per- 
manent insured improvements upon it. The loan 
must run for not less than five and not more than 
forty years. Every mortgage must provide for the 
repayment of the loan under an amortization plan by 
means of a fixed number of annual or semi-annual 
installments sufficient to meet all interest and pay off 
the debt by the end of the term of the loan. No Fed- 
eral Land bank is permitted to charge more than 6 
per cent, per annum on its farm mortgage loans. The 
Federal Land banks are specifically prohibited from 
charging in connection with making a loan any fees 
or commissions which are not authorized by the Farm 
Loan Board. The authorized fees need not be paid in 
advance but may be made part of the loan. 

FARM LOAN BONDS.— After a Federal Land 
bank has loaned on first mortgage $50,000 it can ob- 
tain permission from the Farm Loan Board to issue 
$50,000 in farm loan bonds based on these mortgages, 
sell such bonds in the open market, and use the money 
thus obtained to lend on other mortgages. This proc- 



STANDARD BANKING 345 

ess of lending on mortgages and selling bonds in is- 
sues of $50,000 may be repeated until bonds to the 
amount of twenty times the bank's paid-up capital are 
outstanding. If each bank should have only its re- 
quired minimum paid-up capital of $750,000, this plan 
will provide eventually, if all the authorized bonds of 
the 12 banks are sold, over $180,000,000 to lend on 
first mortgages on farm land. The banks, however, 
can increase their capital stock above the required 
minimum and so increase the amount of bonds they 
can sell, and thus increase the total amount of money 
available for loans on farm mortgages. To make 
these bonds attractive to investors, the bonds, to- 
gether with the mortgages upon which they are based, 
are exempted from Federal, State, municipal and local 
taxation and are made legal investments for fiduciary 
and trust funds. The capital stock of the Federal Land 
banks is also exempt from taxation. Federal Reserve 
banks and member banks of that system are empow- 
ered to buy and sell these bonds. They are to be is- 
sued in denominations of $20, $50, $100, $500 and 
$1,000. 

JOINT-STOCK LAND BANKS.— In addition 
to the system of twelve Federal Land banks and the 
National farm loan associations of borrowers, the Act 
permits the establishment of joint-stock land banks 
and authorizes them to carry on the business of lend- 
ing directly to borrowers on farm mortgage security 
and issuing farm loan bonds. These banks must have 
a capital of not less than $250,000. They are under the 
supervision of the Federal Farm Loan Board, but the 



346 STANDARD BANKING 

Government does not lend them any financial assis- 
tance. The joint-stock land bank is free from many of 
the conditions imposed on the Federal Land banks. 
Subject to the 50 and 20 per cent, value limitation and 
the limitation as to territory, the joint-stock land bank 
may lend more than $10,000 to a single individual, and 
it is not restricted to making loans for the purposes 
specified in the case of the Federal Land bank. The 
joint-stock bank, like the Federal Land banks, cannot 
charge an interest rate on farm mortgages in excess 
of 6 per cent., nor shall such interest rate exceed by 
more than 1 per cent, the rate of interest paid by the 
bank upon its last issue of bonds. A joint-stock bank 
is limited in its bond issue to 15 times its capital and 
surplus. Among the restrictions placed on these 
banks under the Act are (1) that their mortgages 
must provide for an amortization system of repay- 
ment such as is prescribed in the case of loans through 
the Federal Land banks, and (2) that they shall in no 
case demand or receive under any form or pretense 
any commission or charge not specifically authorized 
by the Act and approved by the Farm Loan Board. 
The bonds of the joint-stock land banks are exempted 
from taxation. Their capital stock, however, is not 
exempted. 



CHAPTER IX 



Acceptances 



THE rapid development of the foreign and 
domestic commerce of the United States since 
the latter part of 1914 has brought about rad- 
ical changes in the mechanism by which commerce is 
financed. Increased volume of crops, raw materials and 
manufactures require increased credit facilities and 
the creation of adequate machinery for making these 
crops and manufactured products available either for 
domestic use and consumption or for the markets of 
the world. For a great many years the American 
system of giving expression to credit by means of the 
promissory note and open account had been exten- 
sively utilized in domestic transactions, while foreign 
trade found its medium of settlement in the pound 
sterling of England, the franc of France, the mark of 
Germany and the lira of Italy. Therefore, when in 
the course of events incident to the war, the United 
States became the shopkeeper for the world, it was 
the natural time to rebuild and strengthen the 
machinery of credit and establish a thoroughly Ameri- 
can system of finance for foreign and domestic trade, 
adequate for present needs and capable of expansion 
to meet the requirements of the future. The need was 
for the widest possible use of available credit re- 
sources through a system evolved from the experience 
of England and European countries made applicable 

347 



348 STANDARD BANKING 

to the demand of American commerce. The changes 
brought about through the recognition of this need 
were many and important, not the least of which was 
the creation, through provisions of the Federal Re- 
serve Board, of the American bankers acceptance, the 
acknowledgment of the trade acceptance as an in- 
strument of credit and the establishment of the Ameri- 
can discount market. The acceptance or time bill of 
exchange is undoubtedly the most perfect expression 
of credit and is the product of generations of trade 
and banking experience. In the early history of trade 
reference is found to the bill of exchange, denoting 
the use of credit between one tradesman and another. 
The first people known to extend credit through a 
bill of exchange or, as we now know it, the accep- 
tance, were the English, and the present exceptionally 
high standing of the English bill may be attributed to 
the experience of generations of merchants and bank- 
ers who have found the acceptance the preeminent ex- 
pression of honor in trade. 

DANIEL WEBSTER'S INSIGHT.— The de- 
mand for a commercial credit system in the United 
States adequate to handle the transactions of com- 
merce was emphasized by Daniel Webster in a speech 
delivered before the United States Senate in 1834 in 
the course of which he said: "All bills of exchange, 
(acceptances as they are known to-day), all notes run- 
ning upon time, as well as the paper circulation of the 
banks, belong to the system of commercial credit. 
They are parts of one great whole. We should pro- 
tect this system with increasing watchfulness, taking 



STANDARD BANKING 349 

care, on the one hand, to give it full and fair play, and, 
on the other, to guard it against dangerous excess. 
Commercial credit is the creation of modern times, 
and belongs in its highest perfection only to the most 
enlightened and best governed nations. Credit is the 
vital air of the system of modern commerce. It has 
done more — a thousand times more — to enrich nations 
than all the mines of all the world. It has excited 
labor, stimulated manufacturers, pushed commerce 
over every sea, and brought every nation, every king- 
dom, and every small tribe among the races of men 
to be known to all the rest. It has raised armies, 
equipped navies, and triumphing over the gross power 
of mere numbers, it has established national superior- 
ity, on the foundation of intelligence, wealth, and 
well-directed industry. Consistently with security, 
and indeed founded upon it, credit becomes the great 
agent of exchange. It increases consumption by an- 
ticipating products, and supplies present wants out of 
future means. As it circulates commodities without 
the actual use of gold and silver, it not only saves 
much by doing away with the constant transportation 
of the precious metal from place to place, but also ac- 
complishes exchanges with a degree of dispatch and 
punctuality not otherwise to be attained." 

DEVELOPMENT OF ACCEPTANCES.— 
From the time this statement was made to the pres- 
ent, there has been a steady development of the 
method by which our domestic and foreign commerce 
is financed, and this development has brought with it 
the perfection of the acceptance system. An eminent 



350 STANDARD BANKING 

authority on international finance, Paul M. Warburg, 
after the close of the World War, said: "The future 
growth of the American acceptance business is a thing 
in which not only we, but the entire world is deeply 
interested. It is not only legitimate and good busi- 
ness; it is, at the same time, a contribution towards 
the reconstruction of a suffering world ; a contribution 
on our part to which the world is plainly entitled." 

Bankers Acceptances 

DEFINITION.— A Bankers Acceptance is de- 
fined as a draft or bill of exchange, whether payable 
in the United States or abroad and whether in dollars 
or in other money, of which the acceptor is a bank or 
trust company, a firm, person, company or corpora- 
tion engaged generally in the business of granting 
bankers acceptance credits. An approved form of 
bankers acceptance will be found in Fig. 14. 

AUTHORITY.— The passage of the Federal 
Reserve Act gave to American banks that are mem- 
bers of the Federal Reserve System, for the first time, 
authority under section 13 to make acceptances, or in 
other words, to accept bills of exchange drawn upon 
them having not more than six months sight to run 
exclusive of days of grace, provided such acceptances 
resulted from a transaction or transactions involving: 

(1) The shipment of goods between the United 
States and any foreign country or between the United 
States and any of its dependencies, or insular posses- 
sions, or between foreign countries; 

(2) The shipment of goods within the United 



STANDARD BANKING 



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352 STANDARD BANKING 

States provided shipping documents conveying se- 
curity title are attached at the time of acceptance; 

(3) The storage of readily marketable staples 
provided that the bill is secured at the time of accep- 
tance by a warehouse, terminal or other similar re- 
ceipt; 

(4) The creation of dollar exchange. 
LIMITATIONS ON AMOUNT TO ACCEPT. 

— Provision is also made by the act that any member 
bank may lend its credit by accepting bills drawn upon 
it up to an aggregate of 50% of its combined paid up 
and unimpaired capital and surplus. It can further, 
upon application to and with the approval of the 
Federal Reserve Board, grant such credit or accept an 
additional 50% of its combined paid up and unim- 
paired capital and surplus, provided, however, that it 
does not accept in connection with domestic transac- 
tions an aggregate greater than 50% of its combined 
capital and surplus. There is an additional provision 
under which with the approval of the Federal Reserve 
Board a member bank may accept drafts having not 
more than three months' sight to run exclusive of days 
of grace drawn upon it by banks or bankers in foreign 
countries or dependencies or insular possession of the 
United States for the purpose of creating dollar ex- 
change as required by the usages of trade in the 
respective countries, dependencies or insular posses- 
sions. 

DOLLAR EXCHANGE.— No member bank is 
permitted to accept drafts or bills of exchange for any 
one bank for the purpose of creating dollar exchange 



STANDARD BANKING 353 

to an amount exceeding in the aggregate ten per cen- 
tum of the paid up and unimpaired capital and surplus 
of the accepting bank, unless the draft or bill of ex- 
change is accompanied by documents conveying or 
securing title or by some other adequate security and 
then only to an amount not exceeding at any time in 
the aggregate one-half of its paid up and unimpaired 
capital and surplus. Up to July 1, 1921, the Federal 
Reserve Board granted permission to American banks 
to accept for the purpose of furnishing dollar exchange 
bills drawn by banks or banking firms in the following 
countries: Argentina, Bolivia, Brazil, British Guiana, 
British Honduras, Chile, Colombia, Costa Rica, Cuba, 
Dutch Guiana, Ecuador, French Guiana, Guatemala, 
Honduras, Nicaragua, Panama, Paraguay, Peru, 
Porto Rico, San Salvador, Santo Domingo, Trinidad, 
Uruguay and Venezuela, and Australia, New Zealand, 
and other Australasian dependencies. 

ELIGIBILITY FOR REDISCOUNT.— Banks, 
trust companies or corporations engaged in granting 
bankers acceptance credits are not limited in the 
amount which they may accept for any one person, 
firm, or corporation; but to have bills eligible for re- 
discount or purchase by the Federal Reserve Banks, 
acceptances of any one person, firm, or corporation in 
excess of 10% of the combined capital and surplus of 
the accepting bank or banks must remain actually 
secured throughout the life of the acceptance. In the 
case of acceptances of member banks, this security 
must consist of shipping documents, warehouse re- 
ceipts or such other documents or some other actual 



354 STANDARD BANKING 

security growing out of the same transaction as the 
acceptance so as to insure at all times a continuance 
of an effective and lawful lien in favor of the accepting 
bank. Federal Reserve Banks are permitted to redis- 
count acceptances having a maturity at the time of 
discount of not more than three months, exclusive of 
days of grace, which have been drawn under a credit 
opened for the purpose of conducting or settling ac- 
counts resulting from a transaction or transactions 
drawn in accordance with the requirements of Regu- 
lation A of the Federal Reserve Act. 

FEDERAL RESERVE BANK OPEN MAR- 
KET PURCHASES.— Authority is also granted the 
Federal Reserve banks to purchase and sell in the 
open market at home or abroad from or to domestic 
or foreign banks, firms, corporations or individuals, 
bankers acceptances and bills of exchange of the kinds 
and maturities made eligible by the Act for rediscount 
with or without the indorsement of a member bank. 
Such acceptances to be eligible for purchase by Fed- 
eral Reserve banks must conform to the requirements 
of Regulation A of the Federal Reserve Act, except 
that (a) a bankers acceptance growing out of a 
transaction involving the importation or exportation 
of goods may be purchased if it has a maturity not in 
excess of six months, exclusive of days of grace, pro- 
vided that it conforms in other respects to the relative 
requirements of Regulation A, and (b) a bankers 
acceptance growing out of a transaction involving the 
storage within the United States of goods actually un- 
der contract for sale and not yet delivered or paid for 



STANDARD BANKING 355 

may be purchased, provided that the acceptor is se- 
cured by the pledge of such goods; and provided 
further that the acceptance conforms in other respects 
to the relative requirements of Regulation A. A bill 
of exchange, unless indorsed by a member bank, is 
not eligible for purchase until a satisfactory statement 
has been furnished of the financial condition of one or 
more of the parties thereto. A bankers acceptance, 
unless accepted or indorsed by a member bank, is not 
eligible for purchase until the acceptor has furnished 
a satisfactory statement of its financial condition in 
form to be approved by the Federal Reserve bank and 
has agreed in writing with a Federal Reserve bank to 
inform it upon request concerning the transaction 
underlying the acceptance. 

COMMERCIAL LETTERS OF CREDIT.— 
Acceptances arising out of transactions involving the 
importation, exportation or domestic shipment of 
goods are generally drawn against what is known as a 
commercial letter of credit. A commercial credit is 
an undertaking on the part of a bank to loan its credit 
rather than money to a customer for the purpose of 
financing the shipment of goods either to or from the 
country or within the country in which the credit is 
drawn or for the purpose of storing such goods pend- 
ing shipment. Under the terms of the credit, accep- 
tances are drawn which indicate clearly the character 
of the transaction to be financed, the maturity, 
amount, nature of goods for which the acceptance is 
issued, and if importation or exportation, the name or 
description of carrier. 



356 STANDARD BANKING 

CLASSIFICATION OF LETTERS OF CRED- 
IT. — In the financing of an importation there are 
several possible combinations of parties at interest. 
Although a shipment is made direct by the exporter 
in a foreign country to the importer in the United 
States, the seller does not usually rely upon the un- 
supported credit of the buyer abroad and generally 
requires a bank guaranty. The importer, therefore, 
calls upon his bank to lend its credit to the transaction, 
and thus the exporter is given the right to draw upon 
a banking institution instead of a commercial house. 
But even this added responsibility does not always 
satisfy the exporter, who may prefer funds in his own 
country, and, in this event, the American bank re- 
quests a foreign correspondent bank to notify the ex- 
porter that it will negotiate his drafts. He may, 
therefore, sell his bills of exchange either to the noti- 
fier or to his own local bank. Hence, a letter of credit 
may involve such different parties as the importer, 
credit issuer, notifier, negotiator, any indorser of the 
completed drafts, and lastly the exporter. 

LEGAL RELATIONS.— The legal relations be- 
tween these parties are expressed in a number of docu- 
ments. The import letter of credit is the authoriza- 
tion addressed to the beneficiary in one country by 
the credit-issuing bank in another country under 
which the former is given the right to draw drafts up 
to a specified sum and within a definite time, and the 
latter undertakes to honor the drafts when presented. 
The export letter of credit is the advice from a bank 
to the beneficiary that a credit has been opened in his 



STANDARD BANKING 357 

favor by a foreign bank and that the notifying bank 
agrees to honor drafts drawn by the beneficiary. 

TERMS AND CONDITIONS.— Letters of 
credit may be classified also according to their terms 
and conditions. If a bank agrees to honor drafts 
drawn by the exporter only when accompanied by sat- 
isfactory bills of lading, consular and commercial in- 
voices, the statement is called a documentary letter of 
credit. It is termed a clean or "open" credit if such 
stipulations are not mentioned. A broad basis of 
classification of letters of credit rests on the right of 
the issuing bank to rescind its engagement to honor 
drafts drawn by the beneficiary. If the credit-issuing 
bank reserves the right to withdraw from the under- 
taking, the document is styled a "revocable" letter of 
credit. The "irrevocable" letter of credit contains a 
definite engagement on the part of the issuing bank 
to honor drafts drawn by the beneficiary in accor- 
dance with the terms and conditions specified in the 
letter. This engagement may not be cancelled by the 
issuing bank prior to the expiration date without the 
consent of the beneficiary. The "irrevocable" letter 
of credit may be strengthened further by having the 
notifying bank in the same country as the exporter 
add its unqualified assurance that it will pay or accept 
the bills drawn by him even if the foreign bank should 
refuse to honor them. It is then called'a "confirmed" 
export letter of credit. Expressing, therefore, both 
the definite undertaking of the issuer and also of the 
notifier, it is actually an "irrevocable-confirmed" let- 
ter of credit. Where the notifying bank does not add 



358 STANDARD BANKING 

its guaranty, the credit is described as "unconfirmed," 
since the advising bank maintains that it is merely 
transmitting the information of the credit to the bene- 
ficiary without incurring liability for its continuance. 
Thus three classes of letters of credit may exist: (1) 
Irrevocable by the issuer and confirmed by the ad- 
viser; (2) irrevocable by the issuer but unconfirmed 
by the adviser; (3) revocable by the issuer and also 
unconfirmed by the adviser. This classification is a 
departure from the usual precept that the terms "con- 
firmed" and "irrevocable" are synonymous as applied 
to commercial credits. However, while writings on 
this subject accept the two-fold grouping of confirmed 
or irrevocable as against unconfirmed or revocable 
credits, actual banking practice operates on the classi- 
fication given above. 

IMPORTATION ACCEPTANCE. — The 
American importer desiring to purchase merchandise 
abroad, for example, in France, goes to his bank, out- 
lines the transaction and requests a commercial credit. 
If the bank is satisfied with his credit standing, it is- 
sues a commercial letter of credit for the amount 
involved and for the purpose stated by its customer. 
The credit authorizes the French merchant to draw 
on the bank for the value of the merchandise which 
the American importer is purchasing. The drafts to 
be drawn must be limited to the amount named in the 
letter of credit, must be drawn and negotiated not 
later than the specified date, and must mature within 
a given number of days, say, 30, 60 or 90 days after 
sight. The credit will further stipulate the documents 



STANDARD BANKING 359 

that are to be attached to the drafts when presented 
for acceptance. If the American importer is anxious 
to get his merchandise at the earliest possible date, 
the information that the credit has been opened is 
cabled through a bank located in the vicinity of the 
French exporter, thus saving the delay which would 
be occasioned if the advice of credit was forwarded 
to the exporter through the mails. When the French 
exporter receives the advice, the merchandise is pre- 
pared for shipment, ocean bill of lading and other 
necessary documents are obtained, and a draft is 
drawn on the American bank issuing the credit for the 
value of the merchandise. To this draft is attached the 
documents stipulated in the letter of credit and the 
draft is presented to the French bank for purchase at 
the current rate of exchange. All the shipping and 
other documents are made out or indorsed so as to 
give the bank purchasing the draft title to the goods. 
Having purchased the draft, the bank in France now 
forwards the draft and documents to its correspondent 
in this country with instructions to present them to 
the American bank issuing the credit. The American 
bank, finding that everything is in accordance with 
its letter of credit instructions, accepts the draft and 
returns it to the correspondent of the French bank, 
retaining however the shipping and other documents 
which are to be surrendered to the American importer 
to enable him to get his merchandise. When these 
documents are surrendered, it is customary for the 
American bank to obtain from its customer (the im- 
porter) a trust receipt. The importer then secures 



360 STANDARD BANKING 

his merchandise from the steamer or warehouse into 
which it has been placed and proceeds to dispose of it 
within the time allowed under the letter of credit in 
order that he may be placed in funds to reimburse the 
bank prior to the maturity of the draft which it has 
accepted for him. The correspondent of the French 
bank having received the accepted bill from the bank 
issuing the letter of credit acts on instructions received 
from the French bank and sells the acceptance in the 
open market for its account at the best available rate. 
At least one day prior to the maturity of the draft, 
the American importer places funds in the hands of 
the bank which has issued the credit for him, thus 
enabling it to retire the obligation when presented. 
It is usual for the American importer's bank to charge 
him a small commission for its services in making 
this transaction. 

EXPORTATION ACCEPTANCE.— An Ameri- 
can exporter, receiving an order for shoes to be ship- 
ped to Brazil and not wishing to draw a draft on his 
customer or sell him on open account, makes a pro- 
vision that the purchaser finance the transaction 
through a commercial credit. The purchaser in 
Brazil goes to his bank and requests it to arrange a 
credit with its correspondent in the United States for 
the amount of the invoice. The Brazil banker, having 
full knowledge of the credit standing of its customer, 
requests its correspondent in this country to issue the 
credit and guarantees that the bank issuing the credit 
will be placed in funds before the maturity of any 
drafts drawn on it under the credit. Upon receiving 



STANDARD BANKING 361 

the advice from Brazil, the American bank which is 
to issue the credit advises the American exporter that 
it will accept his draft drawn upon the bank up to a 
certain amount, provided the drafts are accompanied 
by all of the documents mentioned in the letter of 
credit and which of course represent the shoes which 
have been shipped. The American bank advises the 
exporter that the credit will expire on a given future 
date and it is therefore necessary for the exporter, 
upon receiving the advice that the credit is open, to 
ship the shoes promptly and complete his part of the 
transaction as expeditiously as possible. When the 
exporter has placed his shoes on the vessel and has 
secured the shipping and other documents which are 
to be forwarded, he draws a draft on the American 
bank issuing the credit for the value of the shoes with 
the maturity in accordance with the terms of the 
credit, attaches the draft and documents and presents 
it to the bank for acceptance. The bank, upon in- 
vestigation, finding all of the terms complied with, 
accepts the draft, returns it to the exporter, who then 
sells it in the open market reimbursing himself for his 
shoes. The documents, having been removed by the 
American bank accepting the draft, are forwarded to 
the Brazil bank to be released by the Brazil bank to its 
customer, the purchaser, in order that the shoes may 
be delivered to him upon arrival. At or before ma- 
turity the Brazil bank either by means of remittances 
or cable advice to charge its balance in this country, 
places its correspondent in funds to meet the draft 
when presented for payment. 



362 STANDARD BANKING 

DOMESTIC ACCEPTANCE.— A New England 
corporation purchasing cotton in Texas desires to 
finance this purchase by means of bankers accep- 
tances. Application is made to a Boston bank to issue 
a credit for an amount not exceeding the value of the 
cotton being purchased and in favor of the cotton 
merchant in Galveston. The bank, satisfying itself 
on all the terms of the transaction and being assured 
of the credit standing of its customer (the corpora- 
tion), issues a credit for not over 90 days and advises 
its customer that the seller may draw upon it, bills to 
the amount of the cotton invoice and for the maturity 
named. The seller in Galveston is then advised and 
the arrangement being satisfactory to him the cotton 
is shipped and he receives from the railroad shipping 
documents. He then draws a draft for the value of 
the cotton on the bank issuing the credit, attaches the 
shipping documents, insurance policies and invoice, 
and presents the draft to his local bank. This bank 
may purchase the acceptance or it may receive it for 
collection. In either event it is forwarded to the 
correspondent of the Texas bank in Boston to be pre- 
sented for acceptance to the bank issuing the credit. 
This bank finding the documents in order and the bill 
drawn in accordance with its requirements as stated 
in the letter of credit, removes the documents, accepts 
the bill and returns it to the correspondent of the 
Texas bank, On account of market conditions for 
bankers acceptances, the Texas bank may advise its 
Boston correspondent to sell the bill in the open mar- 
ket and place the proceeds to the credit of its account. 



STANDARD BANKING 363 

Or it may after being accepted be returned to the 
Texas bank to be delivered to the shipper, who will 
reimburse himself through sale in the local acceptance 
market. The New England corporation, having re- 
ceived the documents, removes the cotton from the 
cars upon arrival, proceeds to manufacture the cotton 
into goods for sale within the 90 day period, that it 
may reimburse its Boston bank at the maturity of the 
bills accepted by it. All of the shipping documents 
should be issued or indorsed in order to give the bank 
issuing the credit absolute title to the goods during 
the life of the credit. 

ACCEPTANCES SECURED BY WARE- 
HOUSED GOODS.— Should the New England cor- 
poration referred to in the previous case desire to 
carry this stock for a time during or beyond the 90 
day period, the cotton may be placed in a warehouse 
and a draft drawn on its bank for the value of the cot- 
ton to which is attached the warehouse receipts to the 
order of the bank as collateral. The bank having 
agreed to finance the corporation through such a 
transaction accepts the draft and returns it to the 
corporation to be sold. It is stipulated in the credit 
issued in this case that the cotton must be placed in a 
warehouse independent of the corporation and that 
the corporation must not have any control of the cot- 
ton as long as the warehouse receipts are outstanding. 
If the corporation desires to remove any portion of 
the cotton during the life of the credit, it must place 
the bank in funds to cover the value of the cotton so 
removed, as the bank must be secured at all times 



364 STANDARD BANKING 

during the life of the credit either by warehouse re- 
ceipts or cash. 

OPEN MARKET PURCHASES OF ACCEP- 
TANCES. — Bankers acceptances arising out of one of 
the foregoing transactions, if otherwise eligible may, 
under the provisions of the Federal Reserve Act, be 
purchased in the open market by the various Federal 
Reserve banks. Acceptances of member banks of the 
Federal Reserve System which have been drawn in 
accordance with the rules and regulations of the 
Federal Reserve Board are eligible for purchase or 
rediscount by Federal Reserve banks. Bankers ac- 
ceptances, other than those of member banks, whether 
foreign or domestic, shall be eligible only after the 
acceptors shall have agreed in writing to furnish to 
the Federal Reserve banks of their respective districts, 
upon request, information concerning the nature of 
the transactions against which acceptances have been 
made. No Federal Reserve bank shall purchase a 
domestic or foreign acceptance of a "banker" other 
than a member bank which does not bear the indorse- 
ment of a member bank, unless there is furnished a 
satisfactory statement of the financial condition of the 
acceptor in form to be approved by the Federal Re- 
serve Board. 

ACCEPTANCE MARKET.— The buying and 
selling of bankers acceptances create what is known 
as the acceptance market. Bills of well known banks 
are actively sought by bankers, discount houses and 
brokers engaged in such business. These dealers 
operate on a margin of about % of 1% per annum 



STANDARD BANKING 365 

gross profit. The rate of discount varies with the 
money market, the demand for acceptances for in- 
vestment, and the maturity of the acceptance as, for 
example, 90 day maturities might command a rate of 
discount of 6^8%; 60 day maturities, 6%; 30 day 
maturities, 5%%. 

INVESTMENT VALUE.— The bankers accep- 
tance is the most liquid type of investment available 
and from the standpoint of safety is analogous 
to a certified check, constituting a primary uncondi- 
tional obligation of the accepting bank to pay at 
maturity. It has for security the accepting bank's en- 
tire resources and must be honored at maturity, even 
though the taker of credit should fail to complete his 
part of the agreement. In considering the advisability 
of any short-term investment there are three general 
tests that should be applied. 

1. Is it safe? Is there reasonable assurance of 
the return of principal at maturity with interest for 
the period the funds have been invested? 

2. Is it liquid? In the event of funds being re- 
quired prior to maturity can the security be turned 
into cash readily and without substantial loss? 

3. Can the securities be obtained in desired 
denominations and maturities? 

It is on the basis of these three general considera- 
tions that the investor should select his short term in- 
vestments. Judged by these requirements, bankers 
acceptances of the types eligible for purchase and 
rediscount by the Federal Reserve banks may prop- 
erly be regarded as one of the most desirable forms — 



366 STANDARD BANKING 

if not the most desirable form — of short term invest- 
ment. They combine to an unusual extent these im- 
portant requisites — safety, liquidity and convenient 
maturity and denomination. Eligible bankers accep- 
tances have a broad open market in which millions of 
dollars of bills change hands each day at rates varying 
generally not more than y% % to % % per annum be- 
tween the bid and offered prices. The fact that the 
Federal Reserve banks under the law are permitted 
to purchase them tends to stabilize rates on this class 
of obligation and to insure a market for them even in 
times of extreme stress. The holder of an eligible 
bankers acceptance, therefore, may feel, first, that be- 
cause of the nature of the obligation it will be met 
promptly at maturity and, second, that if at any time 
during the life of the acceptance he desires to obtain 
his funds he will be able to do so either by selling 
it in the open market or by discounting the obligation 
through his bank. 

CONVENIENT MATURITIES AND DE- 
NOMINATIONS.— Bankers aceptances are to be had 
in the open market in maturities running anywhere 
from a few days to as long as six months. The gen- 
eral run of bills offered varies in maturity from about 
thirty days to ninety days. An investor anticipating 
a demand for his funds is usually able to buy bills 
maturing on or about the date at which he expects to 
need them. Of course, even if this were not the 
case he would still be able, because of the market 
which has been developed, to obtain funds by selling 
his holdings in the open market. Bankers acceptances 



STANDARD BANKING 367 

are drawn in varying denominations. Based as they 
are on actual commercial transactions, the denomina- 
tions usually will vary with the size of the underlying 
transaction. In some cases where the amount in- 
volved is a large one it has been the custom to make 
up the entire amount so far as possible in denomina- 
tions of $5,000 or multiple thereof. However, there 
are a great many bills appearing in the open market 
in denominations of anywhere from a few hundred 
dollars to five thousand dollars, so that the prospective 
buyer will generally be able to invest approximately 
such an amount as he may desire. 

INVESTORS IN ACCEPTANCES.— Because 
of the characteristics of prime eligible bank accep- 
tances, which have been pointed out, these instru- 
ments of finance have become recognized by the most 
important financial institutions in the country as an 
exceedingly desirable form of short term investment. 
Among the buyers in large quantities at this time are 
the National banks, State banks and trust companies. 
Laws have been passed in a great many States, not- 
ably in New York and Massachusetts, permitting sav- 
ings banks and trustees to invest a certain portion of 
their funds in certain classes of eligible bills. Cor- 
porations accumulating funds for dividends, interest 
requirements, and other purposes, are turning to bank- 
ers acceptances as a means for the employment of such 
funds pending their distribution. Insurance compa- 
nies also in many cases are keeping a portion of their 
current funds in prime bankers acceptances and even 
private investors and business men having idle funds 



368 STANDARD BANKING 

on hand have during recent months in increasing num- 
bers been utilizing bankers acceptances. It is, there- 
fore, apparent that the bankers acceptance makes its 
appeal to all classes of investors, whether individuals 
or corporations, having idle funds temporarily on 
hand. 

Trade Acceptances 

HISTORY.— The trade acceptance was a well 
known and generally used instrument of credit in this 
country up to the time of the civil war. Following 
that conflict the necessary granting of long term 
credits, owing to the disorganization of business, cre- 
ated a demand for cash. This situation suggested to 
sellers of merchandise the granting of a cash discount 
for the prompt settlement of accounts, which led to 
the open account system in place of the trade accep- 
tance. The open account system remained in favor 
for more than fifty years and until the business of the 
country at the outbreak of the world war had reached 
such proportions that it became desirable to release 
the frozen capital represented by open or book ac- 
counts through the restablishment of the trade accep- 
tance system previously in use. The open account 
system is economically wrong, as it is productive of 
dead capital, and creates immobile credit instead of 
mobile credit. The economic value of the trade accep- 
tance has been proved by generations of users in 
England and Continental Europe where it is regarded, 
next to bankers acceptances, as the highest grade of 
commercial obligation in existence. 



STANDARD BANKING 369 

FINANCIAL EFFICIENCY.— In a recent pub- 
lication on the subject, Robert H. Treman, formerly 
Deputy Governor of the Federal Reserve Bank of 
New York, said: "The trade acceptance is a form of 
commercial paper the use of which will do more to 
increase American financial efficiency than almost any 
other factor, whereas the open book account system is 
wasteful and inefficient. Competition has in the last 
few years been extensive and seems to be growing, 
leading often to unsound business methods while the 
cost of doing business continues to mount; all of 
which emphasizes the necessity for better business 
methods and more careful consideration and less 
waste. Banking experience for many years has dem- 
onstrated that purely commercial loans are the safest 
of all temporary investments. The two name com- 
mercial credit, that is, trade acceptance, is one of the 
most liquid and satisfactory forms. The credit repre- 
sented by a trade acceptance with two or more names 
gives evidence that the buyer is prepared to meet his 
obligation at a certain definite time and is adopting 
the most approved and economical way of transacting 
business." 

FORM OF TRADE ACCEPTANCE.— Upon 
the creation of the Federal Reserve Board, trade ac- 
ceptances were officially recognized by the Board and 
recommended for use in all commercial transactions 
in which the element of time for payment of goods is 
involved. A trade acceptance is a negotiable evidence 
of a sale of merchandise and an acknowledgment to 
the seller by the buyer of the latter's obligation to pay 



370 



STANDARD BANKING 



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STANDARD BANKING 371 

for goods bought according to sales terms. An 
approved form of trade acceptance will be found in 
Fig. 15. 

UTILITY OF TRADE ACCEPTANCES.— 
The trade acceptance may be used to the advantage of 
both buyer and seller in connection with all transac- 
tions wherein goods are actually sold on time and title 
passes. When the foregoing conditions prevail, it may 
be used by the producer of raw materials, manufac- 
turer, wholesaler, retailer or the consumer. It should 
not be used where goods are leased or where title re- 
mains with the seller until the last of several install- 
ments have been met or where collateral is required. 
Where goods are sold, a trade acceptance is made out 
by the seller for the amount due and forwarded to the 
buyer at or about the time the goods are billed. The 
buyer may pay spot cash, or if a discount is offered 
for cash payment, he may take advantage of such 
privilege. If he does not do this, it is assumed that 
he agrees to pay the cash in 30, 60 or 90 days — which- 
ever time is determined upon by the seller as his 
credit terms. If the buyer decides to take the privi- 
lege of time payment, he should then write across the 
face of the trade acceptance in the space provided: 
First — The date of acceptance. Second — The name 
of the bank at which he is to pay the acceptance when 
due. Third — The city or town where the bank is 
located. Fourth — The official signature used in his 
business. This should be done at or before the expira- 
tion of the cash discount period and the trade accep- 
tance immediately returned to the seller. The seller 



372 STANDARD BANKING 

may then hold the acceptance until it is due or, if he 
desires to avail himself of the amount represented for 
use in his business, he may discount the acceptance 
at his bank or sell it to a dealer in acceptances. In 
either event it will be presented at maturity to the 
bank at which it is made payable, either by the seller 
of the goods or by a subsequent holder. 

COLLECTION OF TRADE ACCEPTANCES. 
— Banking institutions holding trade acceptances for 
collection, whether taken for collection or discounted, 
should collect them through the usual collection chan- 
nels. When made payable at a banking institution, 
they MUST be presented there for payment. Failure 
to present them for payment at maturity at the bank- 
ing institution where they are payable is to disregard 
the lawful obligation of the collecting agent and is 
contrary to good banking practice. On presentation 
to the paying bank at maturity the trade acceptance 
should be paid and charged to the acceptor's account 
the same as a check, unless the acceptor has requested 
that specific authority be secured before such action 
is taken. In a majority of the states which have 
adopted the Negotiable Instruments Act, Section 
87 reads as follows: "Where the instrument is made 
payable at a bank it is equivalent to an order on the 
bank to pay the same for the account of the principal 
debtor thereon," (which in the case of an acceptance 
is the acceptor). In Missouri this provision is quali- 
fied by the addition of the following words : "* * * 
but where the instrument is made payable at a fixed 
or determinable future time, the order to the bank is 



STANDARD BANKING 373 

limited to the day of maturity only." Illinois, Ne- 
braska and South Dakota omit the provision entirely; 
so does Kansas, which repealed the section by Chapter 
94 of the laws of 1915. In Minnesota the word "not" 
was interpolated so that the section reads: "shall not 
be equivalent," etc. If the acceptor has not sufficient 
funds on deposit to meet the acceptance at maturity, 
the paying bank may refuse payment and the item 
should be protested unless instructions to the contrary 
have been given. It will then be returned to the seller 
and adjustment may be made with the buyer. 

USE AND ABUSE OF TRADE ACCEP- 
TANCE. — The principal mission of the trade accep- 
tance is to liquify credit, improve the turnover and 
minimize credit losses. To maintain its place as a high 
grade credit instrument, it will, therefore, be used with 
the best class of current accounts. Where goods have 
previously been sold on an open account basis and the 
credit department record of the customer shows that 
his account is usually settled with due regard for the 
credit terms, the acceptance is used to the best ad- 
vantage. Under no circumstances should a trade ac- 
ceptance be given in settlement of an overdue account. 
Only those trade acceptances which are drawn at the 
time of or within a reasonable time after a shipment 
or delivery of goods sold can be considered as real 
trade acceptances and as such be approved by the Fed- 
eral Reserve Board and thus made eligible for dis- 
count. To use the trade acceptance merely as a means 
of collecting an otherwise slow account would tend to 
subordinate the trade acceptance to the open account 



374 STANDARD BANKING 

by suggesting it as a last resort for bad debts. In 
an ordinary commercial transaction but one trade ac- 
ceptance should be used and this one should be given 
at or about the time the sale is made. If such an ac- 
ceptance is not paid at maturity, settlement in some 
other form should be made. This is usually by an 
ordinary promissory note or draft. Under no circum- 
stances should a trade acceptance be given in renewal 
of a matured and unpaid acceptance. Such a renewal 
bill would not conform to good practice nor be within 
the spirit of the movement to establish the trade ac- 
ceptance as the premier form of prime commercial 
paper. 

GENERAL PRACTICE.— In general practice 
the maturity of a trade acceptance should approximate 
that of the open account in place of which it is used. 
Where goods are sold on open account, net cash, pay- 
ment within 10 days is considered prompt, and if cash 
discount terms are met within 5 days this also is con- 
sidered prompt. It is reliably estimated that not one- 
half of all open accounts are met in exact agreement 
with sales terms. The practice, therefore, of drawing 
a trade acceptance to run for 45 to 60 days where pre- 
vious open account sales terms have been quoted as 
30 days is not subject to criticism, as such open ac- 
counts were seldom settled within 15 or 30 days be- 
yond their due date. The granting of unreasonable 
sales terms in consideration of the giving of a trade 
acceptance is an abuse. This is true whether these in- 
ducements be in the form of discounts, of unnecessary 
time, or more favorable conditions than would be 



STANDARD BANKING 375 

available under the open account system. The more 
closely the acceptance is kept to the usual terms and 
conditions upon which goods are sold the higher will 
be its value and the more readily will it be regarded as 
a prime credit instrument. The freer a trade accep- 
tance is from special provisions or conditional clauses 
the more easily will it be understood and the more 
readily negotiated. Inclusion of clauses on trade ac- 
ceptances providing for attorney's fees if the bill is 
not paid at maturity, interest charges, or special in- 
ducements may not render an acceptance ineligible, 
but will have a tendency nevertheless to confuse the 
acceptor or subsequent purchaser of the bill, and 
should, therefore, not be used. The only place where a 
trade acceptance should be used is in settlement of a 
bona fide sale of goods. The making of a trade ac- 
ceptance for any other purpose is illegal and subjects 
the parties involved to risk and prosecution. In times 
of credit stringency, devices are the more frequently 
resorted to in order to obtain financial relief, and it is 
not unusual then for attempts to be made to abuse 
every form of credit instrument. Unscrupulous per- 
sons are likely to resort to forgery and to draw drafts 
representing fictitious transactions for the purpose of 
misleading bankers and producing an instrument that 
upon its face purports to be a commercial transaction 
and is in the form of a trade acceptance. The law 
specifically provides for such offenders and with the 
exercise of care by managers of credit departments 
both in business houses and in banks such abuses will 
be readily detected. 



376 STANDARD BANKING 

CREDIT ANALYSIS.— Each trade acceptance 
should represent a carefully investigated credit ac- 
count. No diminution of care in the selection of credit 
risks should be permitted because trade acceptances 
are used. On the contrary there should be closer in- 
vestigation so that every trade acceptance shall repre- 
sent the best of credit risks. The mere fact that the 
paper is in trade acceptance form should not lead any 
one to believe that proper investigation of the credit 
standing of the parties may safely be omitted. 

TRADE ACCEPTANCES AND PROMIS- 
SORY NOTES.— If the trade acceptance is to mean 
anything beyond single name paper, there should be 
responsibility attached to the acceptor of the bill as 
well as to the drawer. While, of course, the bank dis- 
counting a trade acceptance for its customer may not 
always require a statement of the acceptor, unless it 
be for those who accept for important amounts, yet 
the bank is entitled to sufficient information so that 
it can determine whether the acceptor is of good 
moral and financial standing and may be relied upon to 
meet his acceptances promptly at maturity. There 
is a fundamental difference between a trade accep- 
tance and a promissory note. A trade acceptance is 
an order of the seller on the buyer to pay and its self- 
evident character is prime facie. A note is a promise 
by the maker to pay and its self-liquidating charac- 
ter is not prime facie. A trade acceptance must be 
drawn by the seller on the purchaser for goods sold, 
while there is nothing to indicate the origin of a prom- 
issory note. Trade acceptances are discounted in 



STANDARD BANKING 377 

large volume by banking institutions and are offered 
freely by discount houses and dealers with or without 
their indorsement. They are also purchased in the 
open market and discounted for member banks by the 
Federal Reserve banks receiving from the Federal 
Reserve banks a preferential rate of from % to y 2 % 
when rediscounted for member banks. They serve 
as a basis for currency issue and because of their evi- 
dent self-liquidating character are, when properly 
drawn, more highly regarded by indorsers than com- 
mercial paper. 

PROPER INTRODUCTION.— No attempt 
should be made to force a buyer to give a trade ac- 
ceptance until he has had ample opportunity to un- 
derstand the system of trade acceptances through 
proper explanation by the seller or his agents, or the 
buyer's bankers. Once a buyer or seller is shown 
the advantages and utility of the trade acceptance 
and thoroughly understands its use and operation, he 
rarely seeks to return to the open account method. 
As president of the American Acceptance Council, 
Paul M. Warburg has made this declaration: "We 
are preaching the gospel of the trade acceptance for 
no other purpose than that we believe its use makes 
for sounder business and banking conditions. We do 
not say that single name paper is not good, or illiquid ; 
but we may fairly say that the trade acceptance is 
better and more liquid. We do not say that the trade 
acceptance serves all purposes and that all cash sales 
and all cash discounts ought to be avoided ; but we do 
say that where business is not done on a strictly cash 



378 STANDARD BANKING 

basis, the trade acceptance will be found the safer, 
sounder, and, in the long run, more economical 
method than the open accounts. Indeed we believe 
that it is so much of an improvement over the open 
account that in some cases sellers, at present sacrific- 
ing a very heavy cash discount for the purpose of 
avoiding the dangers and inconveniences of open ac- 
counts, might find it to their advantage to consider 
the economy involved in the use of the trade accep- 
tance when dealing with customers of strong credit. 
Our interest in this matter is that whatever makes for 
better morals in business and for better credit and 
banking conditions is a decided benefit to the United 
States." 

TRADE ACCEPTANCE GROWTH.— The 
trade acceptance system needs explanation rather 
than defence. It has already shown its ability to win 
its way when inaugurated under proper auspices and 
when opportunity and facilities for discussion and 
careful consideration are accorded. Its benefits are 
acknowledged by satisfied users in every line of busi- 
ness who are enthusiastic in proclaiming its merits. 
Dangers are not inherent in it, and abuses develop 
only out of careless ignorance or wilful perversion. 



CHAPTER X 



Stocks and Bonds 

THE words "stocks" and "bonds" were formerly 
applied indiscriminately to the financial obli- 
gations of governments. Some of the early 
certificates of indebtedness of the United States were 
known as "stocks," and the same name still clings 
to certain obligations of the city of New York. In 
the language of modern finance, however, bonds are 
certificates of indebtedness and stocks are certificates 
of ownership. In incorporated companies bonds 
represent specific liens on property possessed, and 
stocks represent the property itself. In other words, 
the owner of the stock in a company is a part owner 
of the company, and participates in the profits and 
losses, while an owner of bonds issued by the same 
company is interested in the success of the company 
only in so far as the security and punctual payment 
of such bonds, principal and interest, are concerned. 
The bondholder has no part in the operation of the 
company; ordinarily he has no voice in its manage- 
ment; in short, he is merely a creditor; while the 
stockholder possesses a definite ownership interest in 
the company in proportion to the amount of stock 
owned by him. The bondholder is not responsible 
for the success or failure of the enterprise, while the 
stockholder, in addition to the privileges which go 
with his stock, has that responsibility and obligation 
which attaches to ownership. 

379 



380 STANDARD BANKING 

STOCKS AND THEIR CLASSIFICATION.— 

When a company or corporation is organized, money 
or other things of tangible value which are invested 
in or contributed to the enterprise by the organizers 
are known as capital. Such capital is evidenced by 
proportionate shares of value denominated capital 
stock. As a matter of convenience this stock is di- 
vided into equal parts, usually of $100 each, termed 
"shares of stock." The total amount of stock which 
may be issued is fixed by the certificate of incorpora- 
tion of the company. To evidence the ownership of 
these shares, certificates of stock are issued to holders 
in amounts equal to the number of shares owned. 
These certificates specify the number of shares owned, 
the par value, and certain other facts, as for instance, 
whether the stock is common or preferred, assessable, 
full-paid or not. Generally speaking, there are two 
classes of stock, "common" and "preferred," and the 
usual relation that each bears to the other is indicated 
by their respective names. 

COMMON STOCK.— The control or manage- 
ment of a corporation, as a general rule, vests in the 
ownership of common stock. Ordinarily the posses- 
sion of a share of common stock entitles the regis- 
tered holder thereof to a vote at annual and special 
meetings of the corporation for the legally constituted 
representatives of the stockholders in the manage- 
ment of the affairs of the corporation. Such represent- 
atives are usually termed directors, and hold their 
authority by reason of a preference expressed for 
them by the owners of a majority in shares of the 



STANDARD BANKING 381 

common stock of the corporation. Directors, when 
elected and during their term of office, have well 
defined rights and powers as to the determination of 
corporate policy and the appointment of executive 
officers, but being compelled at definite times to 
relinquish office, are subject to the owners of a ma- 
jority number of shares of common stock. The right 
of common stockholders to have a voice in determin- 
ing corporate policy usually makes common stock 
more eagerly sought for in open market and renders 
unnecessary the payment of large dividends. Ordi- 
narily the amount of dividends paid upon common 
stock is less in amount than that paid upon preferred 
stock. In some instances, however, common stock 
dividends exceed in amount those of preferred stock. 
In some great corporations, such as the Pennsylvania 
Railroad Company, common is the only class of stock 
issued, while in the Great Northern Railway Com- 
pany preferred alone is outstanding. The rights of 
common stockholders are very minutely defined by 
law and very zealously protected by courts. Except 
where otherwise determined by charter or contract 
provision, the ultimate rights of common and pre- 
ferred stock in a liquidation of corporate assets are 
similar. 

PREFERRED STOCK.— Ordinarily preferred 
stock has no voting power, and is therefore not of 
value in determining corporate policy. Preferred 
stock is primarily an investment stock, and is issued 
in such form and with such preferences as to assets 
and dividends, over common stock, as to cause its 



382 STANDARD BANKING 

ready absorption by the purchasing public, and is thus 
a means of providing funds for corporate extension 
and development. The rates of dividends are usually 
fixed in amount and unearned dividends are usually 
made cumulative. By cumulative dividends are meant 
those dividends which, if not paid one year, must be 
paid in some succeeding year, at the fixed rate pro- 
vided for, together with all dividends which have sub- 
sequently accrued. Oftentimes a minimum rate of 
dividend is fixed with a provision for an increase in 
proportion to and in common with the rate of dividend 
declared on an outstanding issue of common stock. 
Preferred stock is usually preferred as to assets in cor- 
porate liquidation over common stock. In case of 
failure to pay the fixed rate of dividend for a stated 
period of time, the right of holders of shares of pre- 
ferred stock to vote, and of a determined number of 
shares to control corporate policy until resumption of 
dividends, is often accorded in an indenture providing 
the terms under which the stock is issued. Preferred 
stock has of late years more largely assumed the na- 
ture of a preferred investment, and sinking funds 
derived from earnings have been created for the re- 
demption of preferred stock in definite annual 
amounts at a fixed price or such lower price as may 
be determined by open market purchases. 

FULL PAID STOCK,— When a corporation has 
received, either in cash or other value permitted by 
law, the full face of stock, such stock is known as "full 
paid," and that fact is so indicated on the certificates. 
If not full paid, the holder may be held liable for the 



STANDARD BANKING 383 

unpaid portion, unless it is expressly stipulated by 
agreement that the share may be sold for less than its 
face value with the understanding that it may be con- 
sidered full paid. When a corporation has not re- 
ceived its full value for stock which has been issued, 
always excepting a reasonable deduction for market- 
ing expense, such stock is known as "watered stock." 
This term as usually employed applies to stock which 
has been issued in payment for property or services 
which have been given a value in excess of their true 
worth, or which represent expected future value. 

TREASURY STOCK.— "Treasury stock" is 
capital stock which has been authorized and issued, 
but instead of being sold or disposed of to the public, 
is held in the treasury indefinitely; or which, having 
been outstanding in the hands of the public, has been 
re-purchased by the company and not cancelled. Such 
stock is carried in the balance sheet as an asset of the 
company, but it cannot be represented by a vote in 
the meetings of the company, nor does it ordinarily 
draw dividends. 

CERTIFICATES OF STOCK.— A "certificate 
of stock" to be legal must be signed by the authorized 
officials of the company and sealed with the corporate 
seal. It must also specify the number of shares repre- 
sented and must bear the name of the registered stock- 
holder. The certificate of stock is not capital, but 
merely the evidence of ownership of capital. Stock 
certificates of a corporation ar£ usually kept in the 
custody of a proper official, generally the secretary, 
and bound in a volume with a stub for recording each 



384 STANDARD BANKING 

certificate issued. This stub bears the essential facts 
concerning the certificate. If the certificate is can- 
celed it must be returned to the company and is 
attached to its original stub. Certificates of stock 
may be transferred the same as any other evidence of 
ownership, but the voting power of such new stock 
is not transferred until a record of such transfer has 
been made on the books of the company. 

VOTING TRUST CERTIFICATES.— In the 
modern development of corporate finance an instru- 
ment of practical value has come into wide use. It is 
termed the "voting trust." The voting trust is an 
agreement whereby the holders of the common or 
other controlling stock of a corporation agree to re- 
linquish for a definite period their rights of control in 
corporate affairs to one or more individuals, called 
voting trustees, who during the life of the agreement 
act for them in the administration of corporate affairs, 
electing directors and performing the ordinary func- 
tions of stockholders. A voting trust is usually the 
corollary of internal dissension or financial reorgan- 
ization, and is used to insure the restoration of con- 
fidence or the protection of money advanced to restore 
the credit standing of the corporation involved. 
Voting trust certificates have the attributes of stock 
certificates and are assigned and transferred in similar 
ways. 

SHARES WITHOUT PAR VALUE.— It has 
long been customary v to issue stock of a fixed par 
value, usually $100, the same having no relation to the 
intrinsic value of the shares or to their selling price. 



STANDARD BANKING 385 

In new companies, stock of fixed par value has some- 
times been sold at one-tenth of that value, such trans- 
actions indicating depreciation in the value of the 
stock or the fictitious nature of the par value. In the 
last analysis, a share of stock is a certificate of owner- 
ship of a specific part of a business. The precise value 
of such specific part is determined by an inventory 
and a financial statement. The par value has no bear- 
ing upon its actual value, except in so far as it repre- 
sents a fixed unit of proportional ownership. The 
market price of a share of stock is dependent, in large 
measure, upon supply and demand, irrespective of the 
intrinsic value disclosed by the corporate books. To 
actually fix the true value of a share of stock and to 
prevent as far as is possible the issuance of stock 
having a value fictitious, and not intrinsic, confusing 
in public service corporations the relation which rates 
and earnings should bear to actual capital investment, 
the certificate of stock having a par value has been 
abandoned in some States and certificates bearing pro- 
portionate value issued in place thereof. Such certifi- 
cates are accorded a face value of the actual original 
amount paid therefor, values being determined by the 
proportion of value which each certificate bears to the 
actual capital value of the corporate enterprise. 

TRANSFER OF STOCKS.— On one side of a 
certificate of stock there is a blank form of assignment 
and power of attorney to transfer, which may be 
filled out by the owner when the stock is delivered to 
another person, with the name of such person, or may 
be signed in blank and delivered. In most States 



386 STANDARD BANKING 

stock so transferred carries full legal title, although 
in a few States registry must be made on the books of 
the company, to protect the transferee against the 
claims of a subsequent attaching creditor of the trans- 
feror who, serving a writ of attachment upon the 
company while the stock remains registered in the 
name of the transferor, will acquire superior rights to 
the prior unrecorded transferee. Furthermore, the 
transfer of a certificate of stock is not complete so far 
as the company is concerned until the transfer is 
recorded on its books. Prior to that time the trans- 
feree would have no voice in the management of the 
affairs of the company and the latter would be pro- 
tected in paying dividends to the former owner who 
would still appear as owner of record. A further 
point to be observed by purchasers or lenders of 
money upon shares of stock is whether the stock is 
subject to any lien of the company for indebtedness 
of the transferor. The laws on this subject in dif- 
ferent States vary greatly; in some States the com- 
pany cannot acquire such a lien while in other States 
the company is given a lien or right to refuse transfer 
until the indebtedness of the owner of record is sat- 
isfied. This right of lien is sometimes expressly given 
by statute and sometimes created in other ways. 

STOCK TRANSFER AGENTS.— With the de- 
velopment of large business through corporate means, 
most of the larger corporations find it expedient — in 
fact quite necessary — to appoint a "transfer agent," 
who exercises entire supervision of the issue and 
transfer of their stock; and because of the predomi- 



STANDARD BANKING 387 

nance of New York City as a stock market, a very 
large percentage of such agents are located in that 
city. These transfer agents are usually banks or trust 
companies, by whose selection the corporation is as- 
sured of responsibility, reliability and accuracy, all of 
which are essential. Indeed so thoroughly precise 
must the transfer agent be that occasionally he is ac- 
cused of being unnecessarily technical. The reason 
for the exercise of such extreme care may be found in 
the following extract from the court decision in a re- 
cent case involving the transfer of securities: "It is 
the duty of such a corporation, before making such a 
transfer, to be satisfied of the genuineness of the 
power presented. In so doing, it must act on its own 
responsibility and incur its own risk of being misled 
by forgery or fraud, and it is no answer to a claim put 
forward by the true owner that the company acted 
in good faith upon what it supposed to be genuine 
authority, and without negligence." 

Bonds and Their Classification 

WHAT BONDS ARE.— A bond is a contract 
between one party desiring funds and another party 
having funds to invest. It is a promise by the 
borrower to pay to the lender at a definite future 
time with interest a certain sum of money. The 
proper classification of bonds is diffcult owing to 
their multiplicity and the ingenuity displayed in 
inventing new kinds and new names. Bonds 
may be classified according to (1) the character of the 
obligor, (2) the purpose or function of issue, (3) the 



388 STANDARD BANKING 

character of security, (4) the conditions of payment 
of principal, (5) the conditions of payment of interest, 
(6) the methods of transfer. 

CLASSIFICATION ACCORDING TO CHAR- 
ACTER OF OBLIGOR.— In accordance with the 
character of the obligor bonds are classified as "gov- 
ernment bonds" and "corporation bonds." The term 
"government bonds" is used in a broad sense to in- 
clude not only the bonds of sovereign States, but also 
those of administrative and civic sub-divisions of such 
States. In addition to Liberty Bonds and all other 
bond issues of the United States and its dependencies 
and of the various States, the term would also cover 
the class of obligations known as municipal bonds, 
which, in a strict sense, consist only of obligations 
of incorporated cities and towns, but which, in the 
broader and more generally used application of the 
term, include, in addition, the bonds of counties, vil- 
lages, parishes, townships, boroughs, precincts and 
tax districts. The term corporation bonds covers prac- 
tically all bonds outstanding other than governmental 
issues. As many different classes of corporation 
bonds may be made as there are classes of corpora- 
tions; three main sub-divisions are commonly made, 
however, viz. : railroad bonds, public utility bonds, and 
bonds of industrial and miscellaneous companies. 
Under the name of public utility bonds come obliga- 
tions which are issued by street and interurban 
railways, gas companies, electric light companies, 
power companies, telephone companies, and water 
companies. 



STANDARD BANKING 389 

CLASSIFICATION ACCORDING TO PUR- 
POSE OF ISSUE. — Among the bonds which derive 
their titles from the purpose of issue, are adjustment 
bonds, income bonds, construction, equipment trust, 
extension, improvement, purchase money, refunding 
and terminal bonds. "Adjustment bonds" are issued 
to enable a company to adjust its finances or for the 
purpose of adjusting the interests of two or more 
corporations. "Income bonds" are general obliga- 
tions ranking in lien after all specifically secured 
bonds, the interest on which is payable only when 
earned as income, and in the amount determined by 
the directors. "Construction bonds," as their name 
implies, are for the purpose of erecting new buildings, 
or in the case of a railroad, new trackage, and as a 
rule are secured by a first mortgage on the property. 
A progressive railroad is under constant necessity of 
increasing its equipment, and therefore "equipment 
trust bonds," or notes, are issued, and the money thus 
raised is used for this purpose. Such bonds are se- 
cured by the equipment purchased. "Extension 
bonds" are issued primarily for the purpose of extend- 
ing the main line of a railroad from one point to 
another. "Improvement bonds" are issued for the 
purpose of repairs and improvement on a property. 
These, in the case of a railroad, may include build- 
ings, stations, trackage, rights of way, and switch 
yards. "Purchase money bonds" are those which are 
used as part consideration in the purchase of proper- 
ties. "Refunding bonds" are issued for the purpose 
of procuring funds which shall be used in retiring out- 



390 STANDARD BANKING 

standing issues of bonds. Sometimes this is done to 
secure a lower interest rate and sometimes in order to 
take care of maturing obligations. "Terminal bonds" 
are usually issued by subsidiary companies organized 
to hold title to terminal stations and properties for 
one or more railroad companies. 

CLASSIFICATION ACCORDING TO CHAR- 
ACTER OF SECURITY.— Based on their security, 
bonds are divided into two classes, "unsecured" and 
"secured"; the former being merely simple promises 
to pay, while the latter are promises to pay, reinforced 
by pledge of property. It must not be thought that 
"unsecured" bonds are less safe than "secured" bonds. 
The obligor issuing unsecured bonds often has such 
high credit that it is quite unnecessary to ask for 
pledge of specific assets. Federal Government, State 
and municipal bonds, while secured by legislative lien 
on tax revenues, are generally termed unsecured 
bonds. They are unsecured because accompanied by 
no collateral contract, such as is the case with the 
majority of railroad, public utility and industrial 
bonds. "Unsecured bonds" have also been issued to 
some extent by corporations. Such bonds are known 
in this country for the most part as debentures. Al- 
though debentures are not secured by pledge of prop- 
erty, it is usually provided that if any subsequent 
mortgage debt is issued, the debentures shall be 
equally secured by the same mortgage. "Secured 
bonds" include such as have back of them actual 
value, which may be obtained by the bondholder 
through legal action in case of default in payment of 



STANDARD BANKING 391 

the bonds. This actual value is in the nature of a lien 
either on personal property or on realty (or on both). 
Those bonds which have a lien on personalty consist- 
ing of bonds, notes, stocks, etc., are called collateral 
trust bonds. Another class of bonds secured upon 
personalty are the equipment trust bonds, secured as 
they are by a lien on railway rolling stock — which has 
been adjudged personalty under the laws of most of 
the States of the Union. Among the various kinds of 
secured bonds may be mentioned "land grant bonds," 
the security for which is a mortgage on the lands in- 
volved; "real estate railroad bonds," secured by a 
mortgage on real property not actually used in the 
operation of the road; "sinking fund bonds," secured 
by a fund created by a contract which is usually in the 
hands of a disinterested trustee; "prior lien," "first," 
"second," "third" and "general" mortgage bonds, the 
security for which is indicated by their titles. It will 
not do to rely too much on the name of the issue, for 
often such names are misnomers, and more frequently 
are they devoid of any connotation which would give 
accurately the lien of the bonds so named. 

CLASSIFICATION ACCORDING TO MA- 
TURITY OF PRINCIPAL.— According to maturity 
of principal, bonds may be classified as "straight" 
when the whole issue matures at a fixed date in the 
future; "perpetual" when there is no fixed maturity 
date ; and "serial" when the maturities of an issue are 
distributed over a period of years. A hybrid fourth 
class may be mentioned, namely, "sinking fund" 
bonds, which, while maturing at a fixed date are to 



392 STANDARD BANKING 

be partially retired before that date through the oper- 
ation of a sinking fund. The great majority of Amer- 
ican bonds are "straight" bonds; serial bonds are a 
less important class; while perpetual bonds are almost 
unknown. In foreign countries, however, govern- 
ment bonds are frequently perpetual. The principle 
of serial maturity is most often made use of in con- 
nection with equipment trust issues. It is provided in 
many cases that bonds may be paid before maturity 
at the option of the obligor ; in other words, the bonds 
are made "redeemable" or "callable." Usually the 
right of redemption may be exercised by the payment 
of a premium above par, but this is not always true 
for municipal issues are commonly redeemable at par. 
Corporations place redemption features in their bond 
issues partly because of the possibility that they may 
be able to refund their funded debt on a lower interest 
basis some time in the future, and partly to preserve 
a flexible corporate structure so as to facilitate con- 
solidation, etc. Perhaps consideration may be given 
to convertible bonds most appropriately at this point. 
Convertible bonds are those to which has been given 
the privilege of conversion into some junior security 
—usually the stock— of the issuing corporation. The 
conversion privilege is usually good only during a 
part of the life of the bond. The possibility of a specu- 
lative gain is the added attraction offered to investors 
through convertible issues. Advantage accrues to a 
corporation which has an issue of bonds converted in- 
to stock as that reduces its bonded debt and fixed 
charges. Debenture issues often are made convertible. 



STANDARD BANKING 393 

CLASSIFICATION ACCORDING TO PAY- 
MENT OF INTEREST.— On most bonds, the pay- 
ment of interest is unconditional, i. e., if any interest 
installment is not paid, the issue goes into default. In 
the case of income bonds, however, interest does not 
have to be paid if it is not earned by the obligor. 
Usually it is provided that if any substantial part of 
the interest on an income-bond issue is earned in any 
year, it must be paid. If all unpaid interest on an 
issue is made payable out of the earnings of future 
years, the issue is cumulative ; if not, it is non-cumula- 
tive. Income bonds are largely a product of reorgani- 
zations, resulting from the necessity of reducing fixed 
interest charges for the reorganized corporations. 

CLASSIFICATION ACCORDING TO 
METHODS OF TRANSFER.— On this basis there 
are three classes : coupon bonds, registered bonds and 
coupon bonds registered as to principal. Coupon 
bonds are payable to bearer and are transferable by 
mere physical delivery. This class of bonds derives 
its name from the attached coupons, which are in 
effect a series of promissory notes, one maturing on 
each interest date. Interest is collected by detaching 
the coupons and sending them to the obligor or its 
interest-paying agent. The ownership of registered 
bonds is evidenced by registration in the transfer 
office of the obligor ; transfer of title is accomplished 
only by endorsement on the back of the bond. Hold- 
ers of registered bonds receive their interest in the 
form of checks from the obligor. Coupon bonds reg- 
istered as to principal are, as the name implies, bonds 



394 STANDARD BANKING 

which, although registered as far as principal is con- 
cerned, have coupons attached thereto which pass by 
delivery and are payable to bearer. The mortgage 
under which bonds are issued specifies what classes 
are to be issued, and whether or not the various 
classes are to be interchangeable. Greater safety 
is the advantage to be gained by registration, for in 
case of loss or theft, payment of principal and interest 
can be stopped. The disadvantages of registration lie 
in expense and inconvenience in making transfers, 
lower market price and greater difficulty in hypothe- 
cation. 

MUNICIPAL BONDS.— Broadly speaking, any 
bond issued by the general government or any sub- 
division of the general government, such as State, 
county or city, is a "municipal" bond, but in the gen- 
eral acceptation of the term a "municipal" bond is one 
issued by a county, city or town, for the purpose of 
providing funds for public works or improvements 
therein. Such bonds may be issued for the erection of 
a schoolhouse, and be known as "school bonds," but 
must be paid by taxes levied upon the people in the 
municipality or school district issuing the same. 
Bonds for street improvement, sewers, waterworks, 
or drainage, issued by a municipality or a subdivision 
thereof, come under the heading of "municipal 
bonds," and their payment is provided for in the same 
way. In considering municipal bonds as an invest- 
ment, the first and fundamental consideration is that 
of legality. It has sometimes happened, even after 
all legal phases of an issue have been carefully scru- 



STANDARD BANKING 395 

tinized by capable lawyers, that some hidden point 
has been discovered which has invalidated the entire 
issue. Generally speaking, a municipal bond issue, 
in order to be legal, must be in accordance with the 
constitution of the United States and must be author- 
ized by the constitution and statutes of the State 
in which the municipality is located. Strict compli- 
ance with all terms of statutes is absolutely neces- 
sary. After the legality of a municipal bond issue 
has been established, the investor should assure him- 
self that there is a sufficient amount of taxable prop- 
erty within the district to insure the payment of the 
interest and principal of the bonds. He should satisfy 
himself also as to the financial record of the munici- 
pality. The serial municipal bond is gradually dis- 
placing the long term bond of fixed existence, and the 
sinking fund bond, and is in accord with soundest 
principles of municipal finance. 

RAILROAD BONDS.— The railroads are the 
highways of the nation and are absolutely necessary 
to its development. The properly issued and well 
secured bonds of well managed and honestly financed 
railroads are premier corporate securities. The classi- 
fications of railroad securities are most numerous, and 
are the result of methods used in obtaining great 
sums of money demanded by rapid development. 
"General mortgage bonds/' last in lien when origin- 
ally issued, have become first mortgages on a 
majority in mileage of main line track, and first 
mortgage bonds may be a lien on a limited mileage of 
secondary trackage. Discrimination and careful 



396 STANDARD BANKING 

investigation are essential to safety, and the last mort- 
gage on a well established line is often better security 
than a first mortgage on a newer road, or one serving 
an undeveloped territory. Outstanding bonds should 
bear a conservative ratio to mileage. The value of 
bonds, in the last analysis, rests upon the earning 
power of the railroad. Principal and interest can only 
be met when net earnings are ample, and railroad 
credit vanishes in increasing ratio as net earnings 
decrease. The total annual bond interest charge of 
a railroad should not exceed one-half of the annual 
net earnings. When net earnings are not in propor- 
tion of two to one to interest charges on outstanding 
bonds, care should be exercised. The interest charges 
on outstanding bonds must be met when due or 
default occurs and foreclosure follows. Such is not 
the case with dividends on capital stock. Dividends 
are payable only when earned and with the consent 
of the board of directors. Dividends are not usually 
fixed charges against earnings. Therefore the well 
financed railroad has a larger amount of outstand- 
ing capital stock than outstanding bonds. Con- 
servative financing is reaching a critical point when 
the proportion of outstanding bonds to capital stock 
exceeds one-half. The railroad is then in a position 
where it is compelled to pay too high a price for its 
money, which, if long continued, weakens its re- 
sources and causes collapse. In estimating the 
security of railroad bonds, give careful study to the 
territory served by the road, its history, population, 
resources and capacity for development. 



STANDARD BANKING 397 

PUBLIC UTILITY BONDS.— Public utility 
corporations are now well established, and their se- 
curities are considered prime investments. Recent 
legislation in the various States has been favorable 
to the stability of public utility enterprises. Public 
utility commissions insure steady earnings and pre- 
vent reckless and disastrous competition. The exten- 
sion of the use of electricity, gas and the telephone, 
is in its infancy. Public utility earnings have shown 
a steady increase, and will undoubtedly continue to 
do so for some further period of time. Bonds issued 
by public utility companies are approved by public 
utility commissions, and in most States can only be 
issued for the actual cost, determined by investiga- 
tion, of the property upon which the bonds are a lien. 
High grade public utility bonds bear a higher rate of 
interest, and usually sell at a lower price than rail- 
road bonds of equal grade, thus insuring a larger 
interest return. Statistics show that for a period of 
years, public utility earnings have exhibited a steady 
increase in volume, irrespective of prosperity or de- 
pression. Gas, electricity and the telephone are no 
longer luxuries, but necessities, and with increasing 
population and cheapness of service, the public utility 
corporation is benefiting. Electric street and inter- 
urban railroads, though carriers of passengers and 
freight, are usually termed public utility corporations. 
Their condition is not as a rule as favorable as that of 
other public utilities, on account of the greater ex- 
pense entailed in carrying on their functions, and 
because they are in most cases subject to the legisla- 



398 STANDARD BANKING 

tive action of common councils in cities, regarding 
terms of franchise and regulation of service. In some 
States, however, the indeterminate franchise, prac- 
tically eliminating competition and placing rate mak- 
ing under the control of a State public utility com- 
mission, has displaced the franchise, to the benefit of 
the corporation. The investment restrictions apply- 
ing to the bonds of public utility corporations as to 
security, proportion of net earnings to interest 
charges, ratio of capital stock to bonded debt, out- 
standing bonds per mile in the case of railways, terri- 
tory and population served, are similar to those apply- 
ing to steam railroads. It should be noted, however, 
that most public utility corporations operate under a 
franchise limited as to time, and care should be taken 
to ascertain that the franchise does not expire during 
the life of the outstanding bonds. 

INDUSTRIAL BONDS.— With the great devel- 
opment of industrial corporations insuring, as such 
growth does, enlarging fields for the sale of goods and 
their manufacture at lowest cost, the command of 
inventive genius to overcome the advantages gained 
by the inventions of others, the control of the produc- 
tion of raw materials, and diversity of output, the 
financing of their credit needs by bond issues has be- 
come recognized as a conservative method of finance. 
Industrial corporations always contend, however, 
with different problems than do most other forms of 
enterprise, and in a large measure their business, 
although a fundamental one, sometimes involves risks 
approaching the classification of hazardous. Bond 



STANDARD BANKING 399 

issues of such type are to receive different considera- 
tion than others. Good will and patent rights must 
be carefully considered. A going plant may have 
large cash value, but the salvage worth of such a plant 
is small. If the management is not progressive, com- 
petition may soon eliminate its goods from the mar- 
ket. The supply of raw materials must not be 
entirely dependent upon the good will of others, nor 
must it be so far removed from the place of manufac- 
ture as to work a disadvantage in competition. The 
quick assets of the corporation must be carefully in- 
vestigated and analyzed, and the proportion of net 
quick assets to outstanding bonds should be a fixed 
one, and always maintained. Industrial bonds should 
mature at an early period, and should have a sinking 
fund provision, or preferably should be serial in ma- 
turity. The proportion of net earnings to interest 
charges should be larger than in the case of railroads 
and public utility corporations, on account of the rapid 
changes which take place in business conditions. A 
first mortgage bond of the United States Steel Cor- 
poration is undoubtedly good, but it cannot be placed 
in a similar class or be used for similar investment 
purposes, as the first mortgage bond of the Pennsyl- 
vania Railroad Company. 

EQUIPMENT BONDS.— By reason of an un- 
usual record of stability and safety, continuously ex- 
tending over a long period of years, "equipment 
bonds" or "car trusts" deserve consideration as invest- 
ments of the highest type. Equipment bonds issued 
upon the security of rolling stock, including locomo- 



400 STANDARD BANKING 

tives, are in large measure preferred liens upon the 
income of the issuing corporation, for a continuance 
of earnings depends upon the use of rolling stock, and 
a default in equipment bonds would deprive the cor- 
poration of its chief means of revenue. In times of 
receivership, courts have ordered the payment of in- 
terest and principal due upon equipment bonds in 
preference to other obligations, and for a long period 
of years there has been no default in equipment obli- 
gations. Equipment bonds or notes are issued under 
what is legally a lease or an agreement of conditional 
sale. These agreements are usually recorded in the 
States in which the corporation operates, and are not 
cancelled until payment in accordance with their 
terms is fully made. The Philadelphia plan of equip- 
ment trust provides for the creation of an equipment 
trust by agreement between a trust company, one or 
more designated individuals, and the corporation. 
The equipment is purchased by the equipment trust 
and leased by the trustee to the corporation, at a 
rental sufficient in amount to meet the principal and 
interest of the equipment bonds or notes when 
due. Such bonds or notes are guaranteed by the cor- 
poration. 

TIMBER BONDS.— The issuance of "timber 
bonds" is a comparatively recent development in 
finance. A great amount of these bonds in par value 
has been absorbed by banks and the investing public. 
Timber, standing, and of good quality, is an asset 
which as time passes will increase in value. Timber as 
security for a bond issue has been likened to land. The 



STANDARD BANKING 401 

analogy is not a correct one. A part is never equal to 
the whole. Land is a fundamental value. Timber is 
not. Standing timber is ordinarily not insurable. The 
fire hazard is therefore of first importance. Timber 
bonds have usually been issued for a fixed period of 
time of long duration. Provision has been made for a 
sinking fund of a certain percentage in money of the 
amount in feet of timber cut. Failure to provide this 
sinking fund is a default in the provisions of the mort- 
gage. To prevent such default timber has been cut 
when the market was so low in price as to cause in- 
evitable loss. Such loss exhausted the resources of 
the company obligated on the bonds, and in some 
cases resulted in receivership. The sinking fund in 
timber bond issues is not sound, and should be dis- 
placed by the serial bond issue. The timber business 
is not a stable one, and timber bonds are oftentimes 
classed as hazardous investments. The rate of inter- 
est paid on such bonds would seem to indicate that 
they are so considered. In many timber bond issues 
the security of the issue consists largely of other 
assets than standing timber, such as saw mills, pulp 
mills and paper mills. The bonds may also bear an 
endorsement worth considerably in excess of the debt 
guaranteed. 

DRAINAGE AND RECLAMATION BONDS. 
— For the purpose of reclaiming fertile land, a large 
part of the time under water, political subdivisions 
designated as "drainage districts" have been created 
under constitutional authority, with power to issue 
bonds and to assess and levy taxes against real proper- 



402 STANDARD BANKING 

ty for their payment, together with the interest there- 
on accrued. Various methods are used in carrying out 
this purpose and in providing for tax levies. In some 
districts taxes are levied by county authorities, in 
others by judicial officers. This type of bond often is 
little more than a special assessment bond against 
benefited property, and its ultimate payment is se- 
cured by the value of the property, and not by a gen- 
eral tax levy. "Reclamation bonds" are similar in 
purpose and form, and are issued for the redemption 
of arid lands, through the use of water. Where mu- 
nicipal districts are created for this purpose they are 
similar to drainage districts in form and powers 
granted. Corporations have endeavored to reclaim 
arid lands through funds provided by bond issues, but 
the problems involved have been so intricate and vast 
that disaster in most instances has been the result. 

Bond Issuance 

BONDS AND NOTES.— Bonds have been de- 
scribed as a species of promissory note, being a prom- 
ise to pay a certain sum at a definite time with interest 
at a fixed rate. The main distinctions between bonds 
and promissory notes have to do largely with propor- 
tions. The maker of a promissory note, the promisor, 
may be an individual, a partnership or at times a cor- 
poration. The maker of a bond, or the obligor, is a 
government, a State or municipality, or a corpora- 
tion; seldom an individual. The amount of the prom- 
issory note, limited largely by the loaning capacity of 
a bank, is usually less than one hundred thousand dol- 



STANDARD BANKING 403 

lars. The amount of a bond issue is usually a matter 
of millions, split up into segments that it may be ab- 
sorbed by the investing public. The promissory note 
is for a period of months, the bond is due after a period 
of decades. It will be of interest to trace briefly the 
process in finance through which bonds are issued, 
taking for an example the bonds of a large corpora- 
tion making steel rails. 

PROCEDURE IN ISSUING BONDS.— There 
would probably be three or four plants of such a com- 
pany in operation, each located conveniently near its 
supply of fuel and raw products. In the course of 
time, owing to the development of a certain section 
of the country, conditions might arise that would put 
the business of one of these plants on a much more 
profitable basis if it could increase its share of the out- 
put, a result only to be attained through the erection 
of several new buildings and the installation of costly 
machinery. To do this would require at least $2,5Q0,- 
000. The company, therefore, decides to issue that 
amount in bonds secured by a first mortgage on an- 
other part of the property. A special meeting of the 
stockholders is held and the whole matter is laid be- 
fore them. A large majority of the stockholders, 
having full confidence in the officers of the corpora- 
tion, will, of course, send their proxies, so that the 
meeting, perhaps, will be but little larger than an ordi- 
nary directors' meeting. At that time it is decided 
how long the bonds shall run, what the rate ought to 
be, and what particular part of the property shall be 
mortgaged as security for the issue. It will be shown 



404 STANDARD BANKING 

that although the interest on the new bonds will add 
to the fixed expenses, yet the increased manufactur- 
ing facilities will largely add to the profits and per- 
haps reduce very materially the amount of money 
which must be borrowed from time to time on short- 
term notes. 

BOND UNDERWRITING SYNDICATES.— 
The next step is to find a banking house that will offer 
the best price for the entire issue; that is, advance the 
money to the corporation, or "underwrite" the bonds. 
(The word "underwrite" arose from the custom adopt- 
ed by merchants, in the days prior to the organiza- 
tion of insurance companies, of agreeing among them- 
selves to become liable for losses sustained by any of 
their number. It was usual to reduce this agreement 
to writing and naturally the parties to the agreement 
wrote their names under it and consequently became 
"underwriters" or insurers.) A price is finally agreed 
upon and the bankers take over the issue, say at 90 ; 
that is, they advance to the corporation $2,250,000. In 
the meantime, a trust company has agreed to act as 
trustee of the mortgage securing the bonds, receiving 
a fee in payment for the service, and also probably 
being appointed as a depository for the payment of 
the interest on the bonds as it falls due. A registrar 
will also have been appointed. 

BOND SELLING SYNDICATES. — Having 
received the issue of bonds and advanced the money 
to the corporation, the banking house will now under- 
take to dispose of them at a fair profit, not, however, 
directly to the public. A syndicate will be formed 



STANDARD BANKING 405 

among several banking and bond houses, each of 
which will take an allotment at a certain price. These, 
in turn, act as distributing agents, and through their 
salesmen and letters to regular clients, the issue is 
finally taken up by the public. In buying the bonds, 
the ultimate purchasers are largely influenced by the 
reputation of the banking firm, since the bank's posi- 
tion is in the nature of an intermediary between the 
corporation and the public. The net result is that the 
corporation has borrowed from the general public in 
small lots the sum of money needed for its purposes. 

STOCK EXCHANGES.— Many of the larger 
cities in all countries have found it necessary to organ- 
ize stock exchanges for the purpose of facilitating the 
buying and selling of the enormous quantity of cor- 
porate stocks and bonds which now exist. These 
exchanges are but the evolution of a common meeting 
place, such as the old coffee houses, bank corridors, 
or certain street corners, where it originally was the 
custom of those who dealt in government or other se- 
curities to congregate. A survivor of the old stock 
exchange localities is the modern "curb market," 
where are sold, in the open air, those stocks and bonds 
which have not been listed on any regular exchange. 
The curb market in New York City is probably the 
most important one of its kind in the United States. 
Its operations are conducted in Broad Street. 

SERVICE OF STOCK EXCHANGES.— The 
Stock Exchange gives to good stocks and bonds a 
ready market and a known price. Without these two 
features, bonds would lose their value entirely as a 



406 STANDARD BANKING 

temporary investment for the idle funds of a bank. It 
is the ease with which they may be converted into 
cash that makes bonds useful as "secondary reserve." 
Stock Exchange prices go over the "ticker" and are 
published in the newspapers in every town of impor- 
tance in the world. Thus it is possible to keep in touch 
with the market value of securities far from the cen- 
tres in which they are dealt, and the radius of their 
usefulness as collateral for bank loans is greatly wid- 
ened. Since stocks in financial institutions are not 
as a rule traded in very generally on any of the great 
stock exchanges, this class of stocks does not figure 
as prominently in the daily quotations as do railroads 
and industrials. Nevertheless, the total of bank stocks 
in the United States compares very favorably with 
the totals of the other kinds. And in spite of the fact 
that the personal element enters into a consideration 
of bank stocks probably more than in any other, it 
must be admitted that, judged by the ordinary ele- 
ments of strength, these are quite as attractive as any 
other kind. The ease which the Stock Exchange 
affords for the purchase and sale of securities which, 
on account of economic causes, are subject to fluctua- 
tions, has made it a centre for speculation as well as 
investment. Authorities find it hard to agree as to 
what extent these two terms may or may not be sy- 
nonymous. 

GOVERNMENT OF STOCK EXCHANGES. 
— The government of the Exchange is vested in a 
committee consisting of a president and other officers, 
together with a number of members. This governing 



STANDARD BANKING 407 

committee has power to draft rules for the conduct of 
business and is the administrative body. In addition, 
there may be several other committees, for example 
the committee on stock list, which, after investigation 
along prescribed lines, has authority to list stocks on 
the Exchange. The members of the Exchange have 
"seats," which term means the privilege to conduct 
business on the "floor." This is the large open space 
where the brokers congregate. At intervals are posts 
which designate the particular stock which may be 
bought or sold there. This system is one of wheels 
within a wheel and makes it unnecessary for a broker 
to search about the room for a purchaser when he 
wishes to sell or buy a certain stock. Sales are made 
practically at auction; that is, the seller asking for a 
price and the buyers biddings usually a little below. 
As sales are effected, memorandum notes are made by 
both parties, which are checked up at the end of the 
day. In the larger stock exchanges, settlement is 
made through the stock exchange clearing house for 
the more active stocks. This mechanism operates 
similarly to the ordinary bank clearing house for the 
exchange of checks. Well-known active stocks are 
usually listed on several stock exchanges and this fact 
has led to what is known as the "arbitrage" business ; 
that is, the purchase of stocks in one city, London, for 
example, where for some local reason prices may be 
low, the stocks being then resold at a higher price in 
New York. 

FINANCIAL TERMS.— There are many terms 
common to stock exchanges, a few of which, although 



408 STANDARD BANKING 

in everyday use, are not generally understood by the 
public. Such are the following : 

"Bear" — One who is interested in having the 
prices of one or more securities decline. 

"Bull" — One who wants prices to advance. 

When a broker has bought more of a certain 
stock than he has contracts to deliver, he is said to be 
"long" of that stock. Selling "short" means selling, 
or contracting to deliver, stock that the broker does 
not own. A "short interest" is a group that expects 
to buy stocks after a fall in prices. If instead prices 
have advances, such brokers incur a loss. 

Another expression in common use, but not clear- 
ly understood, is the term "watered stock." Such 
stock is, of course, in disrepute, and means that a 
larger issue of stock has been sold to investors than is 
represented by the actual value of corporate property. 
This is not to be confused with over-capitalization, 
which means a larger capital has been subscribed than 
is necessary to conduct the business on an interest or 
dividend-paying basis. 

BANKS AND STOCK EXCHANGES.— For 
the purpose of buying and selling stocks and bonds, 
the broker requires a vast amount of money, since the 
purchaser may not settle until the securities are ac- 
tually delivered or transferred. This money is ad- 
vanced by the banks on collateral by what is known 
as "call" or "demand" loans. The bank is privileged 
to ask payment for such loans on short notice, 
although custom has decreed that a sufficient time 
must be given the borrower to make a readjustment. 



STANDARD BANKING 409 

Demand loans sometimes run for long periods of time, 
the interest being paid at certain intervals at varying 
rates. 

ELEMENTS OF SECURITY.— The elements 
of security in stocks and bonds have been tersely 
formulated by Rufus Waples of Philadelphia in the 
following rules: 

(1) Minimum liability of loss is secured in the 
class of bonds authorized for the investment of trust 
funds by such a State as New York. 

(2) No reasonable likelihood of loss is incurred 
in buying bonds that are legally issued and are a valid 
and binding obligation on all the taxable property of a 
city of over 10,000 population, when it is a long settled 
community and has many diversified sources of rev- 
enue, with a debt of about 5% of the assessed valuation 
or less. Smaller cities are more apt to be negligent at 
times in paying obligations at the date due. 

(3) There is a very strong presumption of 
safety in bonds of dividend paying transportation 
companies enjoying right of eminent domain and on 
those of public utility corporations (railroads, street 
railways, gas, water works, etc.), when satisfactory 
earnings have been maintained for several years; 
when the amount of bonds authorized is properly lim- 
ited ; when charter and franchise or physical or other 
conditions offer a large measure of protection from 
competition; and when the franchise will survive the 
maturity of the bonds for a satisfactory period. 

(4) There is a fair presumption that interest on 
an industrial bond will be earned and bond paid at 



410 STANDARD BANKING 

maturity, if the permanent, available assets (land and 
buildings of a general character and property that 
cannot be diverted or seriously depreciated) offer 
foreclosure value sufficiently in excess both of the 
bond issue and of all practicable depreciation, and if 
the surplus earnings provide an adequate sinking fund 
for the retirement of bonds. 

(5) The probabilities strongly favor regular 
dividends on a conservative issue of preferred stock 
when a much larger issue of common stock has long 
earned dividends and surplus, and when commercial 
fluctuations cannot seriously unsettle the average net 
business profit. 

(6) There is a good business chance that com- 
mon stock will maintain the average earnings of the 
past ten years if the business is essentially of a perma- 
nent nature; and if the managers who built up the 
business are in the prime of life, and have accumulated 
large resources as surplus earnings of said business; 
and if they retain both the active management and 
their own interest in the business. 

TEST QUESTIONS.— An investor, when of- 
fered full information about a security that is new to 
him, and that does not at once command his confi- 
dence, wishing to know the favorable features, and to 
discover the points of danger, can, with a little pa- 
tience, act understanding^ by applying certain well- 
established principles, taught by the history of secur- 
ities, and conveniently made use of as test questions. 

(1) Was the bond prepared by the best legal 
talent, at the instance of experienced bankers, with 



STANDARD BANKING 411 

the single purpose of affording the greatest protection 
possible to the bondholders? 

(2) Were all steps taken under honest, capable 
experts (business, legal, engineering and accounting), 
and are the records available for examination? 

(3) Is the capitalization conservative? Has the 
cash cost or probable physical and franchise value 
been closely approached or exceeded in the authorized 
bond issue? 

(4) Is the security issued by a company that 
furnishes all reasonable information to stockholders 
about its earnings and condition? 

(5) If the security is issued by a company that 
should prosper greatly by increasing population, is 
the company's property so situated that local growth 
in any portion of its territory will benefit it? 

(6) Are the bonds and stock owned in good part 
by men of financial strength whose self-interest would 
lead them at all times to consider the welfare of the 
company? 

(7) If foreclosure became necessary, would a 
creditor or bondholder be satisfied to become part 
proprietor or property owner, on account of the great 
value of the pledged property? 

(8) Has the management ably, conservatively 
and conscientiously worked out developments for the 
good of the company? 

(9) Are the employees contented, amenable to 
discipline and working harmoniously with the man- 
agement? 

(10) Has the earning power back of this secur- 



412 STANDARD BANKING 

ity a broad dependence upon the patronage of many 
customers well able to pay for service or goods? 

(11) Is the earning power of the company fairly 
well protected from injurious competition and likely 
to continue so, with a growing population to serve or 
trade to rely upon? 

(12) Is the earning power of the company de- 
pendent upon the patronage of hoped-for custom- 
ers, or upon sub-companies organized to supply 
a demand? Does it seem likely that profits are 
only a future matter — to be reached in "due process 
of time"? 

(13) Does the earning power depend upon any 
expectation of unfair advantage over competitors, 
such as reliance on a degree of official favoritism that 
seems attractive to some men, though it cannot per- 
manently aid a true investment bond or stock? 

(14) Are the conditions of earning power grow- 
ing unfavorable from (a) Insufficient capital? (b) In- 
creasing cost of operation? (c) Increasing demands of 
employees, or strikes? (d) Substitution by competi- 
tors of new methods or materials for old? (e) Deple- 
tion of products of mines or quarries? (f) Depletion 
of products of forests? (g) Depletion of products of 
agriculture? (h) Loss of population? (i) Increasing 
cost of service or distance of deliveries? (j) Increas- 
ing cost of securing raw materials or fuel? (k) Obso- 
lete equipment or superior equipment of business com- 
petitors? (1) Loss of tariff advantage? (m) Loss of 
skill or prestige in management? (n) New or im- 
proved or shorter competing railway lines? (o) Larg- 



STANDARD BANKING 413 

er tonnage in competing steamship lines? (p) New 
rival methods of doing business? 

(15) Is the price asked for the bond or stock 
much greater or less than the usual quotation? 

(16) Has the security been quoted higher or 
lower in price because, of some influence afterward 
withdrawn? (Learn if there have been purchases by 
a sinking fund, expectation that the issue would be 
bought in and retired, accumulation in view of ac- 
quiring voting control, or supposed important ad- 
vantage or disadvantage arising from new connec- 
tions, discoveries, trade expansion or loss, etc., and 
learn exact facts.) 

(17) Is the bond offered presented as a bargain, 
at such a price, or with such prospects of peculiar 
advantage to buyer as to disorganize the investor's 
critical faculty and hasten him into a purchase in the 
belief that he is securing great value for much less 
than it is worth? 

(18) Are the bond buyer and his associates fur- 
nishing money for experiments to get 5% if a new 
enterprise prospers and to bear all the burden if it 
fails? 

(19) Is the bond issue large enough to secure 
the best legal talent, if it should be needed to protect 
the issue, by levying a small percentage upon each 
bond? 

(20) Are the business affairs of the company 
conducted on such a scale that a judgment for injury 
or loss of life would probably be but a small percent- 
age of the net earnings of the company? 



414 STANDARD BANKING 

(21) Is the bond issue so large, or complicated, 
or difficult to understand, that sales of timid holders 
would be likely to cause great price fluctuations? 

(22) Is the vendor of the security able, in behalf 
of the bond or stock offered, to give satisfactory re- 
plies to all questions above cited that properly apply 
to it? 

(23) Is the vendor, through responsibility and 
ample experience, an authority for all statements 
made by him? 

(24) Have responsible bankers directed the 
initial and all later steps taken in preparation of this 
security, bringing an experienced, judicial, business 
training to bear upon the fullest information, obtained 
by the most capable experts available? 



CHAPTER XI 



Systems of Banking 

THE principal banking systems of the world are 
exemplified by the systems of banking existing 
in the United States, England, France, and 
Canada. The United States system is described in 
previous chapters of this text-book and in collateral 
text literature on the Federal Reserve System. Less 
than a third of the incorporated banks of the United 
States are organized under Federal charters, and over 
two-thirds under State charters. There are very few 
branch banks in the United States, the privilege of 
establishing branches being denied to the National 
banks by the Federal Government, and in the 
case of State banks, the privilege of establish- 
ing branches being either denied by the States 
or so restricted as to be practically prohibitive 
in most States. Most American banks are small in- 
stitutions that serve chiefly their own communities. 
Aside from the Federal Reserve banks, only National 
banks have the privilege of issuing notes, and these 
notes requiring for their issue the pledge of Govern- 
ment bonds bearing low interest rates — a type of bond 
of which there is a very small amount outstanding — 
are not issued in large amounts. Their privilege of 
note issue is not of very great importance. There is 
no single central bank in the United States, but all the 
National banks and a large number of the State banks 
and trust companies are affiliated with the Federal 

415 



416 STANDARD BANKING 

Reserve System. This is a system of twelve central 
banks, each possessing the note issuing privilege, the 
twelve banks being co-ordinated and controlled by a 
central agency in Washington, the Federal Reserve 
Board, which consists entirely of Government ap- 
pointees. These are the distinguishing features of the 
United States banking system. 

British Banking System 

BANK OF ENGLAND.— The hub of the British 
banking system is the Bank of England — the most 
famous bank in the world. This bank was founded 
in 1694 with the primary object of providing funds 
needed by the British Government in its war with 
France. The establishment of the bank was due to a 
suggestion made in 1691 by a Scotchman named 
William Patterson. As originally passed, under the 
guise of a tonnage act, the law authorized the sub- 
scribers for a perpetual loan of £1,200,000 to form a 
corporation to be called "The Governor and Com- 
pany of the Bank of England." Its entire capital of 
£1,200,000 was loaned to the British Government, 
from which the bank received an annual return of 
£100,000, representing interest at 8 per cent and 
£4,000 to cover the expenses of management. The 
bank was authorized to issue notes up to the amount 
it loaned to the Government, and "to deal in bills of 
exchange, gold or silver bullion, and to sell any wares 
or merchandise upon which they had advanced money, 
and which had not been redeemed within three months 
after the time agreed upon." Its notes at first bore 



STANDARD BANKING 417 

interest. Soon, however, it acquired the right to issue 
demand notes and to receive deposits. The bank's 
charter was originally for twelve years. As it has 
been renewed from time to time the Government has 
obtained additional privileges from the bank, and the 
bank has in turn obtained concessions from the Gov- 
ernment. The Government's original debt to the bank 
of £1,200,000 has now grown to be a perpetual non- 
interest-bearing debt of £11,015,000. 

THE PEEL ACT.— England suffered a severe 
financial crisis between the years 1836 and 1839. At 
that time there were no restrictions on the amount of 
notes that could be issued by the Bank of England, 
although it was expected that the bank would keep at 
least a 33 1-3 per cent specie reserve against its out- 
standing bank notes — an expectation that was fre- 
quently far from realized. Joint stock banks outside 
of a radius of sixty-five miles of London, since 1826, 
had also enjoyed a practically unlimited right of note 
issue. Small concerns, moreover, having less than 
six partners, had possessed the right of note issue 
throughout England since the Act of 1708. Notes 
had been issued to excess, and many banks had failed, 
involving the public in heavy losses and much hard- 
ship. "Between 1839 and 1843, eighty-two banks, of 
which twenty-nine were banks of issue, failed; 240 
suspended payments between 1814 and 1816, and sim- 
ilar disasters occurred from 1825 to 1840. An epigram 
by an American writer was frequently quoted at the 
time to the effect that "free trade in banking is syn- 
onymous with free trade in swindling." This situa- 



418 STANDARD BANKING 

tion led to an extensive Parliamentary investigation, 
and finally to the Bank Act of 1844, known as the Peel 
Act from the name of its author, Sir Robert Peel, who 
was then Prime Minister. This act is still the funda- 
mental law of the Bank of England, having undergone 
little change since 1844. 

BANKING PRINCIPLE.— In the controversy 
preceding the act of 1844 there were two important 
schools of thought, one the advocates of the so-called 
"banking principle, ,, and the other the advocates of 
what was known as the "currency principle." The 
former looked upon the bank note as essentially a 
form of bank credit, while the latter looked upon it 
rather as currency serving as a substitute for specie. 
Believers in the banking principle maintained "that 
an over-issue could involve no danger either for the 
issuing bank or for the public so long as the notes 
remained convertible, for how could such an over- 
issue take place? First, the notes are issued only in 
the course of banking transactions, that is, in dis- 
counting or making advances on securities. The 
amount of the issue therefore depends, not on the 
wishes of the bank, but on the needs of the public. 
The number of notes issued by the bank will depend 
on the amount of the bills presented for discount and 
this in its turn will depend on the activity of business. 
In the second place, bank notes only remain in circu- 
lation for a very limited time. Hence, even if the 
bank managed to issue notes in large quantities, it 
could not keep them in circulation, for if too many 
notes were issued they would become depreciated and 



STANDARD BANKING 419 

the least depreciation would be enough to bring them 
all back to the bank in a body." 

CURRENCY PRINCIPLE.— The advocates of 
the currency principle began their arguments with 
the statement that there was a certain quantity of 
gold in the world, of which part was used for mone- 
tary purposes, and that under the forces of demand 
and supply in international trade each country would 
receive its proper proportion of this gold. If it should 
receive too much its price level would rise and its in- 
terest rates temporarily decline, with the result that 
gold, being worth less at home than abroad, would be 
exported; if, on the other hand, the home country 
should have less than its natural share of gold, its 
price level would fall, and gold, being dearer there 
than elsewhere, would be imported from abroad. Nat- 
ural forces, they maintained, would always assert 
themselves, if unrestricted, in the direction of main- 
taining equilibrium. Suppose now a group of banks 
are given the note issue privilege, with no restrictions 
as to the total amount that each may issue. Each bank 
finds it to its interest to keep out as many notes as 
possible, because the larger its circulation the larger 
its profits. There is a profit-stimulated competition 
among banks to keep in circulation a large amount of 
notes. To this end discount rates will be kept down. 
As more notes are issued more money will be available 
to business men — bankers are also often interested in 
other lines of business — and a higher price level re- 
sults. This rise in prices leads to an outward move- 
ment of money, and since gold is the only form of 



420 STANDARD BANKING 

money that can be exported, it is gold that is shipped 
out. Notes are presented for redemption in gold and 
the gold is exported. The notes are then re-issued 
and further gold exports result. This procedure leads 
to an ever-declining proportion of gold in the total 
circulation. Notes may continue to be convertible 
even after the proportion of gold becomes danger- 
ously low, the collapse leading to the ultimate sus- 
pension of gold payments coming suddenly. At any 
rate, the advocates of the currency principle main- 
tained, there is a profit-making motive that in the ab- 
sence of restrictions on the amount of note issue, will 
sooner or later deprive a country of its fair share of 
gold, displace the gold with paper, and finally force 
the country to an inconvertible paper money basis. 
LIMITATION OF RIGHT OF ISSUE.— 
The remedies suggested for such conditions were 
to remove the profit-making competition in the 
issue of bank notes by limiting the right of 
issue to one bank, and to prevent that bank 
from issuing to excess in the interest of profits, by 
making the amount of notes it could issue against any- 
thing but specie (£ for £) a fixed amount — an 
amount so low that it would never be in excess of the 
paper money needs of active circulation. Under no 
circumstances was the vacuum in the circulation 
created by the export of specie to be filled by the issue 
of more uncovered notes. Hence an outward flow of 
gold would soon so contract the currency as to make 
it scarce and dear, with resulting higher discount rates 
and falling prices, that would cause a return flow of 



STANDARD BANKING 421 

gold. There could, therefore, be no such progressive 
decrease in the proportion of gold in the currency cir- 
culation as would take place under a system based on 
the banking principle. While this reasoning con- 
tained a large element of truth, the currency principle 
if fully adopted would leave no room for an elastic 
bank note issue to meet seasonal or emergency de- 
mands, and would result in an ever-increasing propor- 
tion of gold in the total circulation, as all increases in 
the monetary circulation in response to growing trade 
needs would be in the form of gold or of notes backed 
pound for pound by gold. It furthermore ignores the 
important fact that the circulating media may be ex- 
panded and gold thereby forced out of the country as 
truly by an expansion of bank deposits which circu- 
late through checks as by an expansion of notes. De- 
posits payable by check were of rapidly growing im- 
portance in England at the time of this controversy, 
but their important bearing on the subject of the con- 
troversy was little understood. The advocates of the 
currency principle won, and the Peel Act of 1844 is an 
embodiment of that principle. 

NOTE ISSUE.— Under the Peel Act the Bank 
of England was given a monopoly of note issue for the 
future except for the fact that the seventy-two joint 
stock banks and 207 private banks issuing notes at the 
time were permitted to continue their issues at 
amounts not exceeding a fixed limit. A bank failing 
or going into voluntary liquidation was not permitted 
to pass on its note issue privilege to any other joint 
stock bank or private bank, and a bank merging with 



422 STANDARD BANKING 

another bank lost the privilege of note issue. The 
Bank of England was permitted to increase its note 
issue uncovered by specie to an amount equivalent to 
two-thirds of the amount at any time given up by 
these banks. Notes of banks other than the 
Bank of England are not legal tender and circulate 
usually only locally. The Bank of England was al- 
lowed an initial issue of notes up to the amount of 
fourteen million pounds uncovered by specie. These 
notes were issued against securities of which £11,- 
015,100 represented the balance still due on the Gov- 
ernment's old perpetual debt to the bank. It was esti- 
mated that this amount of Bank of England notes was 
an absolute minimum that would always be needed 
for circulation. Above that fourteen million pounds 
(and additions that might subsequently be made in 
accordance with the several provisions mentioned in 
this paragraph) every note issued had to be backed 
pound for pound by coin or bullion. Bank of England 
notes, therefore, except for the practically fixed 
amount backed by securities, were essentially coin cer- 
tificates. They absolutely lacked the quality of elas- 
ticity, thereby conforming strictly to the theory of 
the advocates of the currency principle. 

ISSUE AND BANK DEPARTMENTS.— The 
bank was divided into two departments, the issue de- 
partment and the banking department. These de- 
partments are entirely distinct, the issue department 
being concerned only with the rather mechanical work 
of issuing notes for coin and bullion, redeeming notes 
in gold, and of keeping in custody the specie and se- 



STANDARD BANKING 423 

curities back of the notes. The banking business it- 
self in all its various phases is the function of the bank- 
ing department. On August 31, 1844, the Peel Act 
went into effect, and the banking department handed 
over to the issue department fourteen million pounds 
in securities, and such coin and bullion as the banking 
•department did not need, amounting to £14,351,295. 
It received in return from the issue department £28,- 
351,295 in Bank of England notes, which it treated as 
a cash asset. The silver in the issue department is not 
permitted by law to exceed one-fourth of the gold. 
Since 1844 the amounts of these various items have 
greatly increased, but the balance sheet in most other 
respects remains unchanged. It is published weekly 
in the English and American financial press. On 
August 25, 1920, the total note issue was £139,982,- 
830, of which £18,450,000 was backed by Government 
debt and other securities and £121,532,830 by gold 
coin and bullion. 

SECURITY OF NOTES.— Bank of England 
notes are well secured, and cannot well be issued to 
excess under existing law. There is no danger that 
their issue will deplete the country's gold supply. 
They lack, however, the important quality of elas- 
ticity and their circulation cannot be increased or de- 
creased in response to the seasonal demands of trade 
or easily increased in times of crisis or depression. 
Four times in the history of the bank (1847, 1857, 1866 
and 1914) the British Government has authorized the 
bank in times of crisis to disregard the law, and meet 
the emergency by issuing additional notes against 



424 STANDARD BANKING 

securities, with the understanding that the Govern- 
ment would ask Parliament subsequently to legalize 
the action. Very few additional notes have been 
issued under such "suspensions of the Act," the 
knowledge that they could be issued having been 
usually sufficient to allay the fears of the public. In 
1914 an act was passed authorizing the cabinet to sus- 
pend this note issue provision of the Peel Act tem- 
porarily in case of emergency. During the war Bank 
of England notes were well protected, and except for 
a couple of days in August, 1914, while Treasury notes 
were being printed, Bank of England notes were not 
issued in excess of the limits imposed by the Act of 
1844. There was in England, however, during 
the period of the Great War, as in all other bel- 
ligerent countries, a large amount of inflation, but 
this took the form of an expansion of bank deposit 
credit which circulated through checks, and of issues 
of Government Treasury notes, the so-called currency 
notes. 

LOAN AND DEPOSIT FUNCTION.— Al- 
though the issue function of the Bank of England was 
put in a straight jacket by the Peel Act, the loan and 
deposit functions were left free. The result is that 
bank credit in England has developed chiefly in the 
form of deposits that circulate by check, while in 
France, where the note-issue function has been prac- 
tically unrestricted, bank credit has developed chiefly 
in the form of bank notes. Something like 80 to 90 
per cent of the business in England is done by means 
of checks. The bank note feature of the Bank of 



STANDARD BANKING 425 

England organization is the most distinctive one. 
The others may be passed over briefly. The Bank of 
England, although it does a regular banking business 
with private patrons, receiving deposits, discounting 
notes and making collateral loans, is pre-eminently a 
bankers' bank. In this connection its most important 
function is that of a holder of bank reserves. Most of 
the leading banks in England carry little cash in their 
own vaults, usually only enough for till money for 
day to day use and much of that is carried in the form 
of Bank of England notes. The bulk of their reserve 
consists merely of demand deposits in the Bank of 
England. The reserve item in their balance sheets 
usually reads "Cash on hand and in the Bank of 
England," and there is nothing to show in what pro- 
portion those amounts are divided. Settlements be- 
tween banks are largely made through checks on the 
bankers' accounts in the Bank of England. Here is 
the central reserve of coin and bullion for England's 
banking system. On the loan and discount side, as 
well as on the deposit side, the Bank of England per- 
forms important functions as a banker's bank. The 
bank is the final recourse for funds in time of need, and 
stands ready at all times to rediscount at its official 
rate eligible high grade paper for all its banking cus- 
tomers (including joint stock banks, discount houses, 
acceptance houses, private banks, etc.), the proceeds 
of the discounts being passed to the credit of the de- 
positors' accounts and thereby serving them as re- 
serve money. As a matter of fact, in pre-war times it 
was a rare thing for a joint stock bank to borrow of 



426 STANDARD BANKING 

the Bank of England, but what did take place had the 
same effect on the money market. The joint stock 
banks made large loans to discount houses, and when 
the banks felt a heavy pressure for funds, they called 
these loans. Discount houses thereupon applied to 
the Bank of England for discount and collateral loans, 
and paid off their indebtedness to the joint stock banks 
by checks against the proceeds of these new loans 
obtained at the Bank of England These checks on 
being deposited at the Bank of England by the joint 
stock banks, built up their reserve in the bank as ef- 
fectively as a direct rediscount of the paper of the dis- 
counting houses would have done. Since the war the 
joint stock banks have been rediscounting directly at 
the Bank of England. 

CONSERVATOR OF MONEY MARKET.— 
The Bank of England is also the depository of Gov- 
ernment funds and the fiscal agent of the Government, 
administering the Government's debts, and the re- 
ceipt, transfer, and disbursement of large sums of 
Government money. From time to time it makes ad- 
vances to the Government, and since 1914 has man- 
aged for the Government the issue and redemption of 
the Government's currency notes. In an important 
sense the Bank of England is the conservator of the 
English money market. Through changes in its dis- 
count rate, and in the price it pays for gold (which ac- 
cording to law cannot be less than £3, 17s, 9d an 
ounce), and in other ways it protects the money mar- 
ket and exercises an important influence on the im- 
portation and exportation of gold. A public trustee 



STANDARD BANKING 427 

in financial matters, the Bank of England is in fact, 
although not in name. Its stock is entirely owned by 
private individuals. There is in control a "court" of 
twenty-six members, consisting of twenty-four di- 
rectors, a governor and a deputy governor. Repeated 
re-election from year to year is the custom. A gover- 
nor and a deputy governor are elected every two 
years, the deputy governor usually becoming the next 
governor. Seniority is a controlling factor in the elec- 
tion of governor and deputy governor. Persons who 
have once been governor continue on the board of di- 
rectors and constitute one of the board's most impor- 
tant standing committees, "the Committee of Treas- 
ury," which is particularly concerned with the rela- 
tions between the bank and the Government. The 
joint stock banks loan extensively to merchants and 
manufacturers on current accounts, a form of over- 
draft which may be either secured or unsecured. They 
discount bills of exchange, make collateral loans, ac- 
cept bills drawn upon themselves, receive both de- 
mand and time deposits, and deal in foreign exchange. 
The private banks are different from the joint stock 
banks chiefly in the fact that they are not corpora- 
tions, but partnerships owned and controlled usually 
by a few partners. Their functions are essentially the 
same as those of the joint stock banks. In fact many 
of the joint stock banks started as private banks, while 
of course many private banks have been absorbed by 
joint stock banks. From 1832 to 1920 the number of 
private banks in London declined from sixty-two to 
seven. 



428 STANDARD BANKING 

OTHER ELEMENTS OF THE BRITISH 

SYSTEM.— Other elements in the British banking 
system are the acceptance houses, the discount 
houses, and the bill brokers. Acceptance houses were 
originally large mercantile firms of high financial 
standing whose acceptances on their own account had 
gained a high reputation on the market. Lesser mer- 
chants, whose names were comparatively unknown 
and whose paper was therefore not readily market- 
able, from time to time arranged with these houses, 
on proper security, to have them accept bills for them, 
in connection with important business. For the ser- 
vice they paid a commission. The acceptance busi- 
ness in time grew to be the sole business of some of 
these houses. New acceptance houses have been or- 
ganized from time to time, and, as previously noted, 
the joint stock banks have been active in this field 
during recent years. The discount house is another 
element of the English money market. These houses 
are intermediaries between business houses and banks 
on one side which have bills to sell and bankers and 
others, both in England and on the continent, on the 
other side, who buy them as investments. Unlike the 
American brokerage concerns, these discount houses 
usually buy the bills outright, endorsing them at time 
of sale, instead of selling them merely on commission 
and "without recourse/' Their customers are largely 
the joint stock banks, and it is from them that they 
receive the bulk of their funds. Other elements in the 
British banking system which can be merely named 
in passing, but of which the name is suggestive of the 



STANDARD BANKING 429 

function, are the colonial banks, with their branches 
largely in British colonies, and dependencies, and 
their business chiefly in the field of foreign exchange; 
the British foreign banks, with their operations 
largely in foreign countries, and in trade between 
those countries and England, the United States and 
Europe; branches and agencies of foreign banks lo- 
cated in England, chiefly in London; the trustee sav- 
ings banks ; and the postal savings banks, established 
by Gladstone in 1867, and now having deposits of over 
£257 millions. 

French Banking System 

DISTINGUISHING FEATURES.— The 

French banking system is like that of England in 
many respects. It is controlled, to a large extent, by 
a great central bank possessing a monopoly of the 
note-issue privilege, and acting as the depositor and 
fiscal agent of the Government, a bank which carries 
on a regular banking business with the public, and 
which at the same time is the "bankers bank" for the 
entire country. In France, as in England, the bulk of 
the commercial banking business is done by about a 
half dozen large joint stock banks, most of which have 
numerous branches and sub-branches. These banks 
are given a very free hand by the laws of France in 
their fields of operation, and are subject to no Govern- 
ment examination or legal reserve requirements. Like 
England, France has some small joint stock banks 
whose business is largely local, and some private 
banks, although in both countries institutions of this 



430 STANDARD BANKING 

kind appear to be of declining importance. They can- 
not stand the competition of the great joint stock 
banks operating through numerous branches. Both 
countries have a system of postal savings bank of a 
broadly similar character. There are, on the other 
hand, many important respects in which the banking 
systems of the two countries differ, the chief of which 
are in the organization and control of the central 
barik, the character of its bank note issue privilege, 
and of its portfolio of loans; the relative importance 
of bank notes and deposit currency, and the relations 
of the joint stocks banks to the central bank. There 
also exists in France a highly important system for 
the transfer of funds from place to place, which is not 
found in England. 

BANK OF FRANCE.— The Bank of France was 
organized by Napoleon in 1800 and placed under state 
control in 1806. Although its stock of 182,500,000 
francs is all privately owned, there being about 30,000 
shareholders, of which approximately 12,000 are own- 
ers of not more than one share each, its governor and 
two deputy governors are appointed by the President 
of France on the nomination of the Minister of 
Finance. The terms of office are indefinite. The 200 
largest stockholders, all of whom must be French citi- 
zens, annually elect the General Council of the bank, 
which consists of fifteen regents and three censors. 
The regents have functions similar to those of a board 
of directors and have authority to vote on all ques- 
tions. The censors act as comptrollers of the bank 
and have advisory votes only. The bank has upwards 



STANDARD BANKING 431 

of 200 branches and about 300 agencies. Managers of 
branches are named by decree of the President of the 
Republic "on the report of the Minister of Finance, 
upon the presentation made to him of three candidates 
by the Governor of the Bank. The Bank of France 
makes it a rule to leave as much initiative as possible 
to its managers for current business." They are as- 
sisted in the task by the collaboration of members of 
a local board of directors. Their management is sub- 
mitted to the control of a regular inspection, and for 
operations of exceptional importance they must refer 
specially to the central bank, under whose supreme 
authority they always remain. 

ISSUANCE OF BANK NOTES.— The Bank of 
France has enjoyed a monopoly of the privilege of 
issuing bank notes since 1848. Aside from a maxi- 
mum limit beyond which notes cannot be issued, a 
limit that is raised from time to time and which on 
July 17, 1919, was placed at forty billion francs, there 
are no limitations upon the amount of issue. Notes 
can be issued against cash or against any paper that 
the bank is permitted to hold in its portfolio. The 
notes are unlimited legal tender except in payments 
by the bank itself. There are no legal reserve require- 
ments. Previous to the war it was the custom of the 
Bank of France to maintain a metallic reserve against 
its notes and deposits in the neighborhood of 60 to 70 
per cent. A tax of 2 per cent a year is paid by the bank 
on the circulation of its notes. The enormous assist- 
ance rendered by the Bank of France during the war 
led to an increase in the bank note circulation from 



432 STANDARD BANKING 

5,950 million francs on July 23, 1914, to 38,666 million 
francs on September 16, 1920. Between these two 
dates the percentage reserve (against notes and de- 
posits) had declined from 57 per cent to 9 per cent. 
The notes of the Bank of France are excellent exam- 
ples of a practically unrestricted asset currency. They 
are highly elastic, their circulation increasing and de- 
creasing with the demands of trade. 

CHARACTER OF LOANS.— The Bank of 
France is restricted in the character of its loans. It 
makes advances only on paper bearing three or more 
names, of which at least, two must be French names. 
This rule is subject to the exception that satisfactory 
collateral may be substituted for the third name. 
Paper to be acceptable must have a maturity of not 
more than ninety days, although it is the practice to 
grant one renewal for agricultural loans. Valuewise 
a large part of the bank's paper — estimated in 1908 at 
70 per cent — bears the signature of one or more banks 
as endorsers. This bank paper contains many large 
items. In number of items, the overwhelming num- 
ber of loans is for individuals, most of the items being 
small. The average value of bills discounted in 1907 
was 732 francs, the minimum amount admitted to dis- 
count was five francs, and the number of bills below 
100 francs was more than 3,500,000 in a total of 7,- 
500,000. The use of checks in France is very little 
developed. Payments are made chiefly with bank 
notes and coin, and by means of the transfer system 
to be described later. Recently efforts have been 
made to encourage wider use of checks in France, and 



STANDARD BANKING 433 

quite a little progress in that direction is now being 
made. 

REDISCOUNTS.— In France the great joint 
stock banks depend directly upon the central bank for 
funds in times of need, instead of indirectly, as in 
England, through discount houses and bill brokers. 
It is not bad form but rather the usual practice in 
France for joint stock banks to rediscount eligible 
paper at the Bank of France. Their reserves are kept 
chiefly in the form of deposits with the Bank of 
France, little cash being kept on hand. The bank of 
France always stands ready to rediscount eligible 
paper for its banker customers, in reasonable amounts 
in time of need, and the banks depend upon this privi- 
lege in planning their business. The founder of the 
Credit Lyonnais said that if the Bank of France did 
not exist he would close the Credit Lyonnais in times 
of crisis. Deposits at the Bank of France do not draw 
interest. The Bank of France has only one discount 
rate — not a market rate for its regular commercial 
customers and an official rate for its rediscount busi- 
ness like the Bank of England. This discount rate is 
very stable, being changed much less frequently than 
those of the Bank of England or the Imperial Bank of 
Germany. It, moreover, normally rules lower than 
the rates of those two banks. 

DISCOUNT RATES.— This policy of stable and 
low discount rates has been made possible in France 
largely by three facts : ( 1 ) Up to the time of the war 
France was a strong creditor nation. The French 
people are famous the world over for their thrift; and 



434 STANDARD BANKING 

their investments in the securities of foreign coun- 
tries gave them usually a heavy favorable balance of 
trade. (2) The custom of the Bank of France of keep- 
ing very large reserves enabled it to be rather indiffer- 
ent to outward movements of gold that would have 
been matters of great concern to a central bank like 
the Bank of England, which was accustomed to carry 
a much smaller percentage reserve. (3) Since the 
days when France was a truly bimetallic country, 
with free and unlimited coinage of both gold and sil- 
ver, French five franc pieces, new fiduciary coins, have 
been unlimited legal tender in the Republic. Legally 
the bank notes of the Bank of France are payable in 
silver five franc pieces as well as in gold. When the 
Bank of France fears that the drain of gold is danger- 
ously strong, it may exercise its option of redeeming 
its notes in silver coin. Persons wishing bar gold 
must then buy it at the market price — which may 
mean at a substantial premium over the mint price. 
Those wishing gold coin must obtain it elsewhere than 
at the Bank of France. This procedure may retard or 
even stop the outflow of gold, without the necessity of 
the banks resorting to what it considers the more 
heroic measure of raising its discount rate. 

THE TRANSFER SYSTEM.— The transfer 
system of France, which is similar to the famous giro 
system of Germany, is a system of payments from one 
place to another in France operated chiefly through 
the Bank of France and its branches, but also through 
the joint stock banks ; whereby payments are made by 
means of debits and credits on transfer accounts. 



STANDARD BANKING 435 

Depositor X in Paris, for example, wishing to make a 
payment for one thousand francs to depositor Y in 
Lyons, merely directs his bankers to charge his ac- 
count in Paris with 1000 francs and to credit the 
amount to the account of Y in Lyons. This is done 
without the necessity of any check or other paper 
passing between X and Y. The bank's branch in 
Lyons notifies Y that credit has been passed to his 
account. X may obtain a receipt in duplicate if he 
wishes and send one copy to Y, but that is not neces- 
sary. When the funds transferred are the proceeds 
of discounts or loans no charge is made for the trans- 
fer. Otherwise a small charge is made. The Bank of 
France, with its hundreds of branches and agencies 
scattered throughout the Republic, and with its thou- 
sands of deposit accounts of individuals and banks, 
does hundreds of billions of francs of transfer busi- 
ness every year. The joint stock banks lean heavily 
upon it for transfers, as also does the French Govern- 
ment, for which the Bank of France performs the 
service without charge. The transfer system is used 
to make payments within a city as well as from city 
to city. Its use for home city payments, however, has 
probably received its greatest and most interesting 
development in Hamburg, Germany. In France each 
bank using the transfer system has at its head office 
and each branch or agency a list of all depositors of 
the bank anywhere in France. Payments to persons 
not depositors in the bank are made by what amounts 
to sending them a draft which they cash or de- 
posit. This transfer system is the principal explana- 



436 STANDARD BANKING 

tion of why a country like France or Germany can get 
along so easily without any considerable use of 
checks. 

Canadian Banking System 

THE CANADIAN TYPE.— Canada is a coun- 
try of a few large independent banks, operating under 
Federal charters, and carrying on their business 
through large numbers of widely scattered branches. 
There is no central bank in Canada. Each of the joint 
stock banks has the note issue privilege. Had it not 
been for the establishment of the National Banking 
System under the pressure of the Civil War emer- 
gency, it appears probable that the United States 
would have developed a banking system similar to 
that of Canada. At least we were developing along 
those lines, although under State legislation, when the 
National Bank Act was passed under the stress of 
war. The Canadian chartered banks operate under a 
general banking law of the Dominion, which was en- 
acted in 1871 and which is revised every ten years. A 
minimum capital requirement of $500,000 is imposed 
— a requirement that prevents the establishment of 
small independent banks of the type prevailing in the 
United States. 

BRANCH BANKING IN CANADA.— To the 
student of banking living in the United States one of 
the most interesting features of the Canadian banking 
system is the extensive development of branch bank- 
ing. Practically all of the loan and deposit business 
of Canada is done by branch banks. The central of- 



STANDARD BANKING 437 

fice acts as an administrative office, directing the 
broad policies of the bank, and serving as a clearing 
house of information for the branches scattered over 
the Dominion. There are a few branches in foreign 
countries. At the head of a branch is the manager, 
who is appointed by the general manager of the bank, 
and is responsible to him in the conduct of his office. 
It is the usual policy of the central bank to give wide 
discretion in questions of business policy to the mana- 
gers of the more important branches. Canadian banks 
have subsidiary branches — sub-agencies, they are 
called — located in small villages. These subsidiary 
branches are managed by the representative of a 
nearby branch bank. Many of them are open only 
two or three days a week, and some only one day. 

BANK NOTES.— Another important character- 
istic of Canadian banking is its system of bank notes. 
Dominion notes are Government notes secured by 
gold and Canadian securities. Against outstanding 
Dominion notes the law requires the Government to 
hold as security for the first fifty million dollars, gold 
and guaranteed securities of Canadian amount equal 
to 25 per cent of the notes. In normal times all issues 
in excess of the first fifty million dollars must be 
backed dollar for dollar in gold, but under the War 
Finance Act of 1914 the Minister of Finance was em- 
powered to issue Dominion notes to banks upon the 
deposit of approved securities with the Finance Min- 
ister. The Canadian bank note system is one of the 
best examples to be found in any advanced country of 
a simple asset currency — the type of bank note cur- 



438 STANDARD BANKING 

rency issued by the First and Second United States 
Banks, and to-day issued by the Bank of France. Sub- 
ject to the qualification of a required 5 per cent re- 
demption fund, there are no special assets pledged as 
security for Canadian bank notes. These notes are 
backed by the general assets of the issuing banks, just 
as deposits are, and the borrowing customer takes the 
proceeds of his loan, at his option, in the form of de- 
posits that circulate by check, or of notes that directly 
circulate. To the bank it is a matter of comparative 
indifference which of these two forms of its promises 
to pay the borrower chooses to take. They are both 
payable by the bank in legal tender money on demand. 
Against both forms of liabilities the bank must there- 
fore keep a cash reserve. The bank itself determines 
the percentage of reserve to be held, as there are no 
legal reserve requirements of banks in Canada (aside 
from the requirement that 40 per cent of whatever 
cash reserves are kept, shall be held in the form of 
Dominion notes). A Canadian bank usually sends back 
home the notes of other banks it receives over its 
counters, for the same reason it sends back the checks 
on other banks it receives. To hold these notes would 
be equivalent to lending its competitor money with- 
out interest, to pay them out would prevent its paying 
out its own notes of an equivalent amount, and the 
more of its own notes it can keep in circulation, within 
the limits of the law, the larger its profits. After a 
bank has issued its own notes to the limit it may make 
an arrangement with another bank to pay out the lat- 
ter's notes, receiving, of course, some corresponding 



STANDARD BANKING 439 

form of service. Banks must redeem their notes at 
their own head offices, and at seven redemption cities 
designated by the government which are the same for 
all banks. The notes of other banks which a bank re- 
ceives over its counter are sorted out and handled in 
essentially the same way as are checks on other banks. 
They are cleared in the local clearing house in the 
larger places, in which there are branches of several 
banks, or they are sent to the nearest redemption city 
for collection and credit or for cash. 

ELASTICITY OF CURRENCY.— The condi- 
tions above described give the Canadian bank note a 
high degree of elasticity. When the demands for 
money increase, as for example in the crop moving 
season, more money is borrowed of the banks, note 
issues increase, and deposits of notes fall off. At such 
times more notes are carried in the pockets of the peo- 
ple, and held in the cash drawers and vaults of mer- 
chants. Large quantities are needed for cash pay- 
ments in the purchase of crops. After the crop mov- 
ing season, loans are paid off, and surplus cash is de- 
posited by farmers and others in the banks. This 
means large receipts of notes over the banks' coun- 
ters. The notes of other banks are sent home and 
those of the issuing bank accumulate in its own vaults. 
In this way the Canadian bank note circulation quick- 
ly responds to the demands of trade, increasing when 
trade cjemands increase, as at the crop moving sea- 
son, the spring planting season, and the quarterly set- 
tlement dates, and decreasing after those special de- 
mands are over. This responsiveness of the bank 



440 STANDARD BANKING 

note circulation to the demands of trade has been an 
important factor in enabling Canada to escape many 
of the money panics that have occurred on this side of 
the border. 

SEASONAL DEMANDS.— Canada being pre- 
eminently an agricultural country exhibits pronounced 
seasonal changes in her demands for money. In order 
to enable the banks to expand the circulation suffi- 
ciently to meet the heavy crop moving demands in the 
fall, a law was passed in 1908 enabling the banks, on 
the payment of a tax not exceeding 5 per cent, to issue 
emergency circulation between October 1 and January 
1, to an amount equal to 15 per cent of their capital 
and surplus. The revised Canadian Bank Act of 1913 
authorizes banks to issue additional notes against de- 
posits of the equivalent in gold or Dominion notes, in 
the "Central Gold Reserve" — a reserve administered 
by the Canadian Bankers Association and the Minis- 
ters of Finance. 

ELASTICITY AND SAFETY.— The Canadian 
bank notes are not only highly elastic, but they 
are also eminently safe. The total amount 
that may be issued (aside from that in normal 
times covered dollar for dollar by gold coin and Do- 
minion notes) is normally limited, as we have seen, to 
100 per cent of the issuing bank's paid up capital. At 
crop moving time, namely, September 1 to February 
28, the limit is raised to 115 per cent of the bank's 
combined paid up capital and surplus. Notes carry a 
prior lien on the assets of the bank. There is double 
liability of stockholders, and there is in addition a 5 



STANDARD BANKING 441 

per cent circulation redemption fund, which must be 
maintained with the Minister of Finance against all 
bank notes in circulation. The fund draws interest 
at 3 per cent, and in case of depletion must be restored 
to 5 per cent by contributions from banks of issue not 
exceeding 1 per cent of their respective bank note cir- 
culations each year. Notes of a failed bank draw in- 
terest at 5 per cent from the date the bank ceases to 
redeem them to the date announcement is made of 
the resumption of redemption. In case, however, the 
bank does not redeem its notes, with the interest due 
thereon, within two months they may be redeemed by 
the Minister of Finance out of the 5 per cent redemp- 
tion fund. The fund has not been drawn upon since 
1890. There are many other interesting features of 
the Canadian banking system in addition to those al- 
ready discussed, as for example the Canadian banks' 
methods of securing themselves for loans on grains in 
process of raising and marketing, their participation 
in industries, their relationship to the New York and 
London money markets, and their peculiar relation- 
ship to the Canadian Bankers Association. 



CHAPTER XII 



International Exchange 

THE development of money as a common stand- 
ard of value and medium of exchange provided 
a common basis for trade, a means by which 
commodities could be compared, priced and quoted in 
different markets, and the universal esteem in which 
the precious metals were held enabled them to be 
used as a means of effecting exchanges and as stand- 
ards of value. 

TRANSMISSION OF FUNDS. — The actual 
shipment of coin, however, inevitably involves risk 
and expense. If a seller in one country were shipping 
certain goods to another, and at the same time receiv- 
ing goods from that country, he would find it benefi- 
cial to discharge his own obligation by giving his 
creditor an order on his debtor. If he was not at the 
moment receiving goods from that country, but ex- 
pected to make purchases there shortly, he would still 
find it advantageous to offset the transactions. Pro- 
vided he was satisfied of the stability of his debtor, 
and the debtor was willing to pay him interest for 
the use of the money, he could wait until his purchase 
was made, and then give his creditor an order on his 
debtor. If either of these conditions were lacking, 
he would ask his debtor to pay the amount to some- 
one he trusted, who would hold it to his credit, and 
pay him interest for its use until drawn against. 

442 



STANDARD BANKING 443 

FOREIGN CREDITS.— If, on the other hand, 
the seller contemplated making no purchases, and had 
no other use for a credit in the other country, he could 
sell his bill to one of his neighbors who had. In this 
way, those who dealt with that country could buy 
and sell bills as suited their convenience. But it would 
be a simple state of society indeed in which all the 
parties to import and export trade knew each other; 
and even if they were inclined to accept each other's 
obligations freely, it would be difficult to find obliga- 
tions that exactly offset each other. It was but one 
step more to the development of the bill-broker or 
banker who bought and sold bills in all markets. 
These brokers thus became the bookkeepers and set- 
tling agents for the countries in which they dealt in 
their transactions with the rest of the world. 

SETTLEMENT OF TRADE.— The settlement 
of our domestic trade is in these modern times effected 
by the banks situated in the trade centers, and of our 
foreign trade by the banks in the clearing points of 
international commerce. Local banks throughout the 
interior of the United States, in their task of collect- 
ing for products shipped to the trade centers, accu- 
mulate balances or deposits there which are constantly 
being drawn against in settlement of purchases from 
these centers. Similarly, our own banks engaged in 
international trade accumulate and deplete balances 
in the trade centers of the world. 

EXCHANGES.— The transactions which give 
use to this building up and depletion of foreign bal- 
ances are customarily classified as the exchange of 



444 STANDARD BANKING 

goods, securities, services, treasure and travel. A de- 
tailed description of each follows : 

Goods comprise the shipment of physical com- 
modities, agricultural, mineral and animal products 
and manufactures. Because of its tangibility, the vol- 
ume of this kind of foreign trade is easily recorded, 
and as it, and treasure, are the only items which are 
incorporated in ordinary statistics of import and ex- 
port trade, they are termed the "visible" factors. 

Securities comprise stocks, bonds, short term 
notes and acceptances, interest, coupons and dividend 
payments. 

Services comprise payment of freight and pas- 
sage money to foreign-owned carriers, of insurance 
premiums to foreign-owned insurance companies, and 
banking commissions to foreign banks. There are in 
addition the remittances of immigrants to relatives in 
their country of origin, which may be classed either 
as part compensation for importation of their ser- 
vices, or as a separate class. 

Treasure comprises the precious metals. Gold 
and silver, like other goods, move from the cheaper to 
the dearer market under the impetus of the same fun- 
damental economic forces. 

Travel comprises the expenditure for goods and 
services consumed by travellers whose funds are de- 
rived from abroad. 

BANKS AS SETTLING AGENTS.— The com- 
plexity of modern business has brought about a cor- 
responding diversification in the service banks render 
as its settling agents. For example, take a for- 



STANDARD BANKING 445 

eign purchase of goods. If the merchandise is to be 
paid for before shipment, or after delivery, the buyer 
can fulfill his obligation by purchasing from his bank 
a check or telegraphic order for payment to his seller, 
from the balance the bank has accumulated abroad. 
If the merchandise is to be paid for upon shipment, 
the buyer's bank can issue a commercial letter of 
credit authorizing the correspondent with which this 
balance is maintained to pay the shipper's invoice out 
of that fund against delivery of shipping documents, 
or else inviting its correspondent to negotiate the 
shipper's documentary draft by undertaking that it 
will be duly honored. If the delivery of the mer- 
chandise is to be made against acceptance, or payment 
of the seller's draft' on the buyer, the seller's bank will 
undertake to remit the documents and draft to its cor- 
respondent in the domicile of the buyer, for collec- 
tion. If the draft is drawn in the seller's currency, the 
correspondent will remit in some fashion or other a 
claim in that currency against a balance in the coun- 
try of the seller. Where the draft is drawn in the 
buyer's currency, however, the payment is credited 
by the correspondent to the balance in that currency 
maintained there by the buyer's bank. 

ILLUSTRATION. — To be concrete, if the 
United States Cotton Export Company were to ex- 
port $10,000 worth of cotton and draw at sight in 
dollars on the Royal Textile Company of London, 
the obligation of the London correspondent would 
be to remit a check in dollars on a New York bank 
account. To finance this shipment, the New York 



446 STANDARD BANKING 

bank would discount the draft, taking from its face 
amount interest for a period sufficient to cover trans- 
mission of the draft by mail to London, presentation 
there, and remittance of the check by mail, plus the 
commission of its correspondent and itself, and bill 
stamp when required abroad. The amount remitted 
would be $10,000, less the London bank's commission 
and expenses. The difference between the amount re- 
mitted and the proceeds of the discounted draft would 
give the New York bank its commission and interest 
for the period during which it had been out of funds. 
If, on the other hand, the draft had been, as is more 
customary, drawn at ninety days' sight, in sterling, 
the transaction would invoke more complicated ele- 
ments. Such a draft would read : 

£2,000. New York, July 1, 1921. 

Ninety days after sight of this First of Exchange 
(Second unpaid) pay to the order of the New York 
Bank Two Thousand Pounds Sterling. Value received 
and charge to our account. 

United States Cotton Export Company, 

New York. 

To Royal Textile Company, 
London, England. 

The rate of interest that would control the dis- 
count of a dollar draft would normally be the New 
York discount rate. The sterling bill, on the other 
hand, is rediscountable in London, and the London 
discount rate would thus control. 



STANDARD BANKING 447 

TIME REQUIRED.— There is no difference be- 
tween the time taken to mail to London and present 
a sterling and that required to present a dollar bill, 
but the proceeds of the dollar bill do not become 
available to the New York bank until the remittance 
has reached New York, while the proceeds of the ster- 
ling bill are available as soon as they are credited to 
its balance in London. A ninety-day sight bill is, 
however, presented first for acceptance, and the obli- 
gation of the drawee to pay it ninety days thereafter 
is evidenced by writing the word "Accepted," the date 
of acceptance, and sometimes the place of payment, 
across the face of the bill, above the signature of the 
drawee. Assuming that it took eight days for over- 
seas transit, and three days of grace customary in 
England on time bills, it would be one hundred and 
one days between the time of purchase of the bill in 
New York and the time the bank regained the use of 
its money by payment by the drawee in London. A 
sight sterling bill for £2,000 would therefore com- 
mand a better rate than a ninety-day sight sterling bill 
for the same amount, the difference being interest for 
ninety-three days, as there would be no days of grace 
on a sight bill. 

DISCOUNT MARKET.— The existence of a 
broad discount market in London for accepted ster- 
ling bills, makes it usually possible for the New York 
bank to avail itself of the proceeds of a draft, upon 
which documents are deliverable upon acceptance, 
immediately after acceptance. In normal times the 
London discount rules lower than the New York rate, 



448 STANDARD BANKING 

and when possible, acceptances are immediately redis- 
counted. If, on the other hand, the London discount 
rate were higher than in New York, the rediscount 
would be unprofitable and the draft would be held in 
portfolio until maturity. 

WITHHOLDING UNTIL PAYMENT.— 
Where the credit standing of the drawee is not beyond 
question, it is the practice to withhold delivery of the 
documents until payment. Such bills are not dis- 
countable, but they nevertheless sometimes command 
a better rate than documents against acceptance 
drafts, because the drawee is likely to pay in advance 
of maturity in order to get delivery of the goods. A 
rebate in the form of an interest deduction, for the 
period elapsing between the time of payment and the 
maturity of the bill, is allowed for this anticipation. 
The New York bank avails itself of the sterling fund 
thus accumulated, by selling to those who purchase 
goods from England, travel to that country, remit to 
relatives there for support or for investment, or for 
any other reason require English funds, cable or letter 
orders for payment or checks against that account. 

BALANCING SALES AND PURCHASES.— 
Our domestic banks can accumulate their balances in 
domestic trade centers as claims are offered, and await 
the creation of a local demand for funds from the cen- 
ters before disposing of these accretions to their ac- 
counts, without concerning themselves with any 
question except the rate of interest paid on those 
funds in the trade center, as contrasted with the re- 
turn they might bring if invested locally. The value 



STANDARD BANKING 449 

of a foreign account is, on the other hand, subject to 
constant fluctuation by the operation of circumstances 
which we will shortly examine. For that reason, the 
prudent banker must always "hedge" his foreign ex- 
change operations. He must protect every sale by a 
purchase, and every purchase by a sale. In a normal 
market this need not be done with each transaction, 
but the day's totals of sales and purchases of each cur- 
rency must be made to balance before the day's trad- 
ing ends. This may be accomplished in several ways. 
Our New York bank, for instance, could cover its 
purchase of the £2,000 ninety-day draft by selling at 
the same time its own ninety -day draft for an aggre- 
gate of £2,000. If there were no market for ninety- 
day drafts, it could ask its correspondent to redis- 
count the purchased ninety-day bill after sixty days, 
and sell in New York at the time it buys sixty-day 
drafts against the proceeds of the rediscount. If there 
were no market for sixty-day bills, it could ask its 
correspondent to rediscount the draft immediately 
upon acceptance, and sell a demand draft against the 
proceeds. Or if there were no market for sight bills, 
it could sell an immediate cable transfer, which would 
create an overdraft on its London account, until the 
purchased draft had arrived and been accepted, and 
rediscounted to cover the overdraft. The profit from 
operations of this character arises from the fact that 
a lower rate is quoted for the purchase than for the 
sale of exchange. It is from this difference, or 
"spread" between the buying and selling rates that 
legitimate foreign trade profits are derived. 



450 STANDARD BANKING 

SUPPLY AND DEMAND.— If there were an 
equilibrium between the supply and demand for New 
York funds in Chicago, a draft for $1,000 on New 
York could be either sold or bought in Chicago for 
par, i. e., $1,000, plus or minus the expense of bank- 
ing service. If, however, the preponderance of de- 
mand over supply pushes the cost of a $1,000 draft 
on New York in Chicago to $1,000.45, the operation 
of the economic law is easily comprehended. To ob- 
serve the reflection of this same law in a foreign 
exchange rate, it is necessary to first know the par 
between the two currencies involved. For instance, 
the material (gold 11/12 fine) in an English pound 
sterling of full weight is 113.00156 grains, while the 
United States gold coins (9/10 fine) contain 23.22 
grains to the dollar. Therefore £1 = $4.8665, which 
is the unit par of exchange. With supply and demand 
in equilibrium, therefore, a demand draft on London 
for £100 would be worth $486.65 in New York. In 
practice, under such conditions, a bank would pur- 
chase a good commercial bill for that amount for very 
slightly less and sell its own draft for the same amount 
for very slightly more. 

MOVEMENT OF COMMODITIES.— In any- 
thing approaching a normal economic situation, travel 
and remittance of funds for support of relatives are 
dictated by personal inclination, and commodities 
move in response to the demand for them as consum- 
able goods. The movement of gold and silver, and to 
a lesser extent of stocks and bonds, is not actuated by 
any independent demand, but by their value as a coun- 



STANDARD BANKING 451 

terbalance to inequality in the movement of the other 
factors in foreign exchange. 

SEASONAL DEMANDS.— Since all business, 
in the last analysis, consists of an exchange of prod- 
ucts and services, it follows that when the checks and 
drafts arising from current transactions are brought 
together in the clearing houses, they practically 
offset and cancel each other. Nevertheless, a good 
part of the domestic movement is seasonable, with a 
resultant seasonal shifting of the direction of flow of 
balances. If the local demand for funds in a trade cen- 
ter exceeds the local offerings of claims on that center, 
a bank which wants to continue to meet the demand 
can build up its balance there by the actual shipment 
of money. In domestic exchange, paper currency is 
often chosen for shipment; it is lighter and cheaper 
to ship than metal, and it serves as well as gold as 
commercial and savings bank reserve, and till money. 

SHIPPING COSTS.— The cost of shipping cur- 
rency between Chicago and New York is about 45 
cents per thousand dollars. This cost includes the 
transportation rate, insurance premium and loss of 
interest on the money while in transit. When the 
premium on New York funds in Chicago rises to 
that point, and it costs $1,000.45 to buy a draft there 
on New York, it becomes profitable to ship currency 
from Chicago to New York. If, on the other hand, 
a draft on New York brought but $999.55 in Chicago, 
it would be cheaper for the Chicago bank to move 
its balance to Chicago by a currency shipment than to 
continue selling drafts at that figure. 



452 STANDARD BANKING 

FLUCTUATION IN RATES.— Foreign trade, 
like domestic, is essentially barter, and in the long 
run, like domestic trade, must settle itself. Nor- 
mally, such fluctuation as exists in foreign exchange 
rates is attributable to a crop movement, failure of 
an expected crop, flotation or maturity of a foreign 
loan, or some other factor which is, from a broad 
view-point, temporary in character. This fluctuation 
is kept within limits by shipments of the money met- 
als. In former years, foreign exchange brokers were 
able to forecast the general trend of the sterling rate 
during the late summer and autumn, because they 
knew that, as our great cereal and cotton crops came 
into the market, they would be offered the sterling 
bills of exchange which were being drawn by our 
exporters on London merchants. If a sterling draft 
for £100 were worth the mint par of exchange of 
$486.65 in June, when such bills were scarce, it would 
move down to $485 under the stress of competition 
with the August offerings. If, however, it continued 
to drop to $484.50 it would have reached the point 
at which a countershipment of gold could be profit- 
ably employed. To understand how this is, it must 
be kept in mind that a bill of exchange for £100 is, 
when due, paid with sovereigns that contain as much 
gold as $486.65. Under normal conditions, all the 
expenses incidental to shipping gold from London to 
New York, including abrasion, packing, carting, ship- 
ping, insurance, and interest during transit, amount 
to less than the difference between $486.65 and 
$484.50. So the American holder of such a bill of ex- 



STANDARD BANKING 453 

change could more profitably send it to London for 
collection, and have the proceeds remitted to him in 
gold bars, for which he would receive the coinage 
value at a United States assay office. If, on the other 
hand, a scarcity of sterling bills in the New York 
market brought the quotation up to $4.88, it would 
be cheaper to settle one's obligation in London by 
shipping gold from here to that market, to be used 
there in the purchase of sovereigns. 

REASONS FOR SHIPMENTS.— In actual 
practice, gold shipments are not made by exporters 
or importers, nor in settlement of particular transac- 
tions. Whenever the exchange rates move to a point 
which make such a movement possible, it is done by 
banks and bullion brokers in volume sufficient to make 
the narrow margin of profit attractive. Sometimes a 
shipment of gold not directly profitable may be made 
so by a triangular exchange operation. For instance, 
a New York banker may desire to build up a balance 
in London, on which to sell drafts, because drafts on 
London are selling well in this market. In Paris, 
drafts on London may be below par. The New York 
bank can ship gold to Paris, with which to purchase 
drafts on London, and thus build up a balance there 
on which it can profitably draw. 

GOLD AND SILVER STANDARDS.— Such 
operations as have been described depend for their suc- 
cess upon the existence of a gold standard and absolute 
freedom of exportation or importation of the metal. 
Some countries are on a silver standard. Here there 
can be no fixed mint par of exchange, and not even 



454 STANDARD BANKING 

approximate limits to the fluctuations in exchange 
rates. Exchange rates, in a gold standard country, 
on a silver standard country move roughly with the 
rise and fall of silver. Silver moves in and out of 
the monetary circulation of such a country in such a 
way as to keep the value of a given quantity of silver 
approximately the same, either in coin or bullion. If 
silver falls in the world's market, it moves to the 
silver standard countries and into its coinage, depre- 
ciating its purchasing power and raising prices. If 
the gold value of silver moves up, coin is melted and 
exported, while the purchasing price of that remain- 
ing appreciates, and prices fall. 

PAPER MONEY STANDARD.— When a 
country is on an inconvertible paper money standard, 
the rate of exchange in the paper money country 
would depend chiefly on the cost of gold in terms of 
paper, and therefore would rise as the paper money 
depreciated in relation to gold. When each of two 
trading countries are on a paper basis, the ratio of 
exchange will depend upon the cost of gold in terms 
of each paper currency. 

MARKET FOR GOLD.— It has already been 
pointed out that all that has been said is dependent 
upon an unrestricted market for gold. But there has 
not been, even in countries in which it was cus- 
tomary, an unrestricted market for gold since the 
opening of the Great War in 1914. Since then, most 
governments that were on a gold standard have sus- 
pended it in one fashion or another, and their paper 
currencies are not convertible at the mint par of 



STANDARD BANKING 455 

exchange into exportable gold. So long as this situa- 
tion continues, the guaranty against undue fluctua- 
tions in exchange rates accorded by unrestricted gold 
shipments is inoperative. 

RATE OF EXCHANGE. — So long as the 
world's currency was on a gold basis — and all the 
commercially important currencies were on that basis 
prior to the Great ar — the rate of exchange could not 
rise or fall from par beyond the cost of gold shipment 
to or from the place at which the conversion from cur- 
rency to gold could be effected. The possibility of an 
effective prohibition on specie shipments was so little 
considered that the author of a text-book on inter- 
national trade and exchange, published in 1914, desir- 
ing to theorize upon the basis of such an assumption, 
permitted himself to "suppose that the medieval the- 
ory of prohibiting the export of specie were still in 
vogue." His conclusion was that the stimulus given 
to American buying in England afforded by the pos- 
sibility of purchasing a sight draft on London for 
£100 at (say) $4.78, would tend to stabilize the rate. 
I nthe years since that book was published, the world 
has put to practical test the author's conclusion that 
"whatever the relations of the currencies of two trad- 
ing countries, and whatever the mechanism of set- 
tling balances, or whatever the restrictions on the 
settlement by the use of any special commodity, e. g., 
gold, an excess flow of trade in one direction intro- 
duces always a tendency towards an opposite and 
balancing flow." That endency did not become oper- 
ative, however, until Sterling had sunk to $3.15. At 



456 STANDARD BANKING 

present the dollar has an absolutely unprecedented 
purchasing power, and, for the first time in history, 
is quoted above parity with every other currency. 
Yet our import figures for August 1921 set a low 
record for recent years and indicate that other factors 
must be set to work to hasten the evening-up process. 
After all, it is the demand for consumable goods, as 
such, rather than for bills of exchange and money, 
which will supply the corrective. 

CENTER OF TRADE.— During the Great War 
the United States became the leading center of trade 
of the world's commerce. It is estimated that since 
1914 we have sold eighteen billion dollars worth more 
goods than we have bought. Our claims on the rest 
of the world for payment of goods are, therefore, far 
in excess of the claims the rest of the world hold on 
us. The difference was taken care of in part by ship- 
ping gold to us until foreign governments embargoed 
that movement to conserve their reserves; payment 
of part of it has been postponed by extension of for- 
eign loans ; and a substantial part of it exists at pres- 
ent in the form of unliquidated mercantile claims and 
in rejected goods in foreign ports. 

THE PRESENT NEED.— An unprecedented 
need created a flow of trade in one direction to an 
extent that had been hitherto thought impossible. It 
was, nevertheless, inevitable that it would so change 
monetary and price conditions as to bring its own 
termination. It would seem to follow that an at- 
tempt to force the present settlement of the obliga- 
tions the world owes this country would not only be 



STANDARD BANKING 457 

impossible of success, but that it would destroy our 
only hope of selling the exportable surplus of our 
products, estimated at 20% of the total. To help, in- 
stead of hinder, us, this balance must be permanently 
invested in the foreign field, where it can be profitably 
employed, until the world state of trade interdepend- 
ence, built up by the slow work of centuries, and de- 
stroyed overnight, can reconstitute itself. 

THE EDGE ACT.— This dislocation of the 
balance of trade is so violent that it cannot be regard- 
ed simply as a passing phase. It has not only changed 
the character of American international banking, but 
has created a new type of American banking institu- 
tion, the Edge Law banks. 

FOREIGN TRADE FINANCING CORPORA- 
TIONS. — The law known as the Edge Act has amend- 
ed the Federal Reserve Act so as to authorize the 
organization and conduct of corporations for the 
particular purpose of financing foreign trade. The 
Edge Act permits National banks to subscribe to the 
capital of corporations organized in accordance with 
its provisions. They may subscribe in amounts not 
exceeding in the aggregate ten per cent of the capital 
and surplus of the subscribing banks. The laws of 
some of the States permit State banks to do likewise. 
Individual American citizens, and corporations when 
owned chiefly by American citizens, may also become 
stockholders. Edge Act corporations are subject to 
the supervision and control of the Federal Reserve 
Board, as provided in the Act. An Edge Act corpora- 
tion may, under the law, extend long and short term 



458 STANDARD BANKING 

credits, invest in securities, purchase bills of exchange, 
engage in foreign banking, and in every lawful way 
aid in financing foreign trade. It may likewise, with 
the approval of the Federal Reserve Board, issue and 
sell to the investing public its own notes and deben- 
tures to an aggregate amount of ten times its paid-up 
capital and surplus. It may not engage in the general 
business of buying or selling goods or commodities in 
the United States, nor engage in domestic banking, 
except such as in the judgment of the Federal Reserve 
Board may be incidental to its international or foreign 
business. Edge Lav/ banks have been given the 
special privilege of accepting drafts up to a year in 
tenure, which are eligible for purchase or discount by 
the Federal Reserve banks. They are thus enabled 
to supply credits of longer duration than National 
and State banks. Where still longer credits are re- 
quired, the Edge Law banks will have to operate on a 
debenture, not an acceptance basis, as the Federal Re- 
serve Board has ruled that acceptances and debentures 
may not be outstanding at the same time. Several 
Edge Law banks are now in operation on an accep- 
tance basis, but debenture financing has not yet been 
attempted, and it is probable that it could not be suc- 
cessful unless accompanied by a large scale campaign 
of education to acquaint the investing public with this 
new class of security and thus to popularize it. 

EXTENSION OF ACCEPTANCE PRIVI- 
LEGE. — The extension of the acceptance privilege to 
National banks has assisted in bringing into Ameri- 
can banking usage an instrument which has long been 



STANDARD BANKING 459 

a factor in international exchange — the commercial 
letter of credit. The acceptance credit serves the 
purpose of affording a seller assurance that his con- 
tract may not successfully be evaded by cancellation, 
and that he will get immediate payment when his 
goods are ready for delivery, and at the same time 
furnishes the buyer a period of credit. Prior to 1914 
there were some private banking firms here who ac- 
cepted dollar drafts, but the lack of the acceptance 
privilege on the part of our National banks, and the 
limited market for dollar exchange, made it necessary 
for our importers to open all but a negligible part of 
their credits in sterling, which involved the interven- 
tion of English banks. Our import commercial credit 
business thus took on an English pattern. As the 
stability of the large British banks was everywhere 
recognized, and sterling was everywhere saleable, it 
was not essential to the effectiveness of British bank 
credits that a correspondent in the domicile of the 
beneficiary undertake, for account of the British bank 
and its agent, either to pay the beneficiary local funds, 
or to negotiate his sterling bill. 

BRITISH BANK CREDIT.— All the beneficiary 
required was authority from the British bank to draw 
on it, and its undertaking that drafts, negotiated in 
accordance with the terms stipulated, would meet 
with due honor on presentation at its banking house 
in Britain. With such an instrument in his posses- 
sion, the beneficiary could negotiate his drafts at 
favorable rates at any bank, whether it was a cor- 
respondent of the British bank or not. The British 



460 STANDARD BANKING 

bank credit was, in banking parlance, a negotiation 
credit, circular in form, and these essential character- 
istics are preserved in the American import credit of 
to-day. 

STERLING CREDITS. — When American 
banks began to open sterling credits, they had a 
choice of three methods. They could issue their own 
instrument, authorizing a British bank to honor ster- 
ling drafts drawn on it for their account, and under- 
take that drafts so negotiated would meet with due 
honor on presentation at the banking house of the 
British bank named; or, they could issue such an in- 
strument and ask the British bank additionally to con- 
firm by a separate cable or letter to the beneficiary 
that it would honor such drafts; or, without taking 
any direct action, they could ask the British bank to 
issue its usual instrument to the beneficiary, for ac- 
count of the American bank. 

DIFFERENCE IN METHODS.— The essential 
difference between the three operations is that one, 
who negotiates a draft in the first instance, has only 
the obligation of the American bank that the draft 
will be honored; in the second instance, the obliga- 
tion of both American and British bank; and in the 
third, the obligation of the British bank alone. Where 
the credit standing of the American bank was suffi- 
cient to enable the beneficiary to negotiate drafts, it 
was done the first way. If it was not, the credit stand- 
ing of the British bank was employed in one of the 
ways indicated, and it was paid an additional commis- 
sion for lending its name. 



STANDARD BANKING 461 

IMPORT CREDITS.— The credit standing of 
American banks is to-day such that as a general rule 
their import credits authorize the beneficiary to draw 
on them here, if the drafts are in dollars, or on a 
named correspondent in London if in sterling, and the 
undertaking, in either case, that drafts so drawn will 
be honored on presentation, is entirely adequate, 
without more, to enable the beneficiary to negotiate 
them readily. 

EXPORT CREDITS.— One might suppose, 
therefore, that our export credits — that is, credits 
furnished by foreign banks to their customers, who 
import from here — would follow the same model. For 
instance, a Greek might ask a Greek bank to mail its 
commercial letter of credit to the American exporter, 
authorizing him to draw either on it in Athens in 
drachmas, or on its correspondent in London in ster- 
ling, and undertake in either case that drafts so drawn 
would be honored on presentation. That is what the 
Greek buyer and the Greek bank would like to do, but 
they are doing very little of it at present, because the 
American exporter does not like such a credit. He 
wants dollars; and he has been unwilling either to 
take the risk of a depreciation, in the value of sterling 
or drachmas, before he can entitle himself to sell them 
by presenting his shipping documents with his draft 
for negotiation, or to protect himself against this risk 
by selling his sterling or drachmas for future deliv- 
ery. And he feels, too, that the Greek bank is too far 
away to justify him in doing business on the strength 
of its obligation alone. 



462 STANDARD BANKING 

DEVELOPED SINCE 1914.— The bulk of our 
export commercial credit business has developed since 
1914, during a period in which our exporters were able 
to dictate terms, and they have demanded, almost uni- 
versally, dollar credits, and the obligation of an Amer- 
ican bank. Where the British banking tradition is 
followed, as in Japan, for instance, the importer's bank 
has mailed its credit instrument to the beneficiary, 
and asked its American correspondent to confirm 
that it will protect drafts drawn under its terms. The 
other European countries have, oddly enough, re- 
frained from dealing directly with the beneficiary, but 
have asked their American correspondent, by cable or 
mail, to advise the beneficiary of the issuance of the 
credit. Such credits are not confirmed, that is, made 
the obligation of the American bank, unless specific 
instructions are given to do so. 

COMMERCIAL LETTERS OF CREDIT.— 
There has been a rapid and widespread development 
of the use of commercial letters of credit by domestic 
banks in financing domestic sales within the past sev- 
eral years. The actuating reason for this development 
was that importers of commodities, like sugar, being 
compelled to establish import credits in favor of their 
foreign suppliers, as a safeguard against cancellation, 
felt it necessary to require a similar protection from 
their domestic customers to whom they had resold the 
commodity. An acceptance credit is quite as useful 
in financing a domestic as a foreign shipment, how- 
ever, and can profitably be resorted to wherever the 
durations of the domestic shipment permits the 



STANDARD BANKING 463 

usance of the accepted draft to be sufficient to furnish 
credit for a substantial period of time. 

THE WORLD'S BANKER.— It is too early to 
say that New York has usurped the unique position 
London has so long held as the world's banker. That 
position was the creation of a combination of circum- 
stances — the stability of the English government — 
the liberality with which foreign bankers were per- 
mitted to operate there — the world embracing char- 
acter of British shipping and British commerce — will- 
ingness to invest the proceeds of a favorable balance 
of trade in foreign countries rather than to attempt 
to bring them home — knowledge of the technique of 
international exchange and enough acquaintance 
with economics to extend credit skillfully. Much of 
the advantage that was London's is now ours. It is 
significant that the dollar was chosen as the measure 
of Germany's reparation payments, though the United 
States is the least sharer in the reparation fund. So, 
too, is the action of the Italian National Exchange 
Institute in replacing the pound sterling by the dollar, 
as the standard upon which the gold lira is based. But 
if New York is effectually to supplant London, as the 
center of international exchange, restrictive laws must 
be repealed so that foreign banks can enjoy here as 
much freedom of action as they have had in London. 
All the world quite naturally turns to us, as the richest 
and most powerful nation, for assistance, and if we 
have the vision to avail ourselves of their legacy of 
experience and administer our new power with sagac- 
ity, the leadership is won. 



INDEX 



Acceptance Market 364 

Acceptances 172, 177, 347, 349, 350, 358, 360, 362, 363, 

364, 367, 368, 458 

Acceptances Secured by Warehouse Goods 363 

Accounting 124 

Adjustment of Reserves 262 

Administrators 102, 103 

Advertisements, Examples of 209, 210, 211 

Advertising 204, 205, 206 

Agents for Individuals 105 

Agents for Warehousemen 294 

Agricultural Loans 311 

Altered Bills 303 

Altered Checks 148 

Analysis of Credit 376 

Analysis of Resources v 129 

Assets 254, 270 

Assets, Liquidity of 97 

Assignees 109 

Attachment 304 

Auditors 186 

Balance Sheet 47, 48, 49, 51, 53, 277 

Balancing Cash 165 

Balancing Purchases 448 

Balancing Sales 448 

Bank Accounting 124 

Bank Advertising 204 

Bank Auditors 186 

Bank Bookkeeping , 164 

Bank Building , . 131 

Bank Cashiers 122 

Bank Deposits 60, 63, 145 

464 



STANDARD BANKING 465 

Bank Directors 120 

Bank Examination 192 

Bank Examiners 191, 198 

Bank Loans 268 

Bank Notes 52, 54, 56, 80, 437 

Bank of England 416 

Bank of France 430 

Bank Officers 120, 123 

Bank Operation 120 

Bank Presidents 121 

Bank Publicity 202 

Bank Report 126 

Bank Reserves 12, 56, 57, 58, 59, 63, 79, 80, 179, 183 

Bank Service 202, 212 

Bank Statements 126 

Bank Supervision 191 

Bank Tellers 144 

Bankers Acceptances 350, 354, 365, 366, 367 

Banking, Development of 89, 91 

Banking by Mail 151 

Banking Principle 418 

Banking Systems 415 

Banks, Organization of 76 

Barter 7 

Batch System 149 

Bearer Checks 154 

Beef Cattle 333 

Bill Book 176 

Bill of Exchange , . 46 

Bills of Lading 223, 224, 297, 299, 300, 302, 303, 307, 309 

Bills Payable 138 

Bimetallic Standard 24 

Block System 149 

Blotters, Tellers' 164 

Bond and Mortgage Record 133 

Bond Issuance 402 



466 STANDARD BANKING 

Bond Selling 404 

Bond Test Questions 410 

Bond Underwriting and Selling Syndicates 404 

Bonds 138, 387, 394, 395, 397, 398, 399, 400, 401, 402 

Bonds and Notes 402 

Boston Form of Individual Ledger 168 

Branch Banking in Canada 436 

British Bank Credit 459 

British Banking System .416, 428 

Business Cycles 67 

Canadian Banking System 436 

Capital Accounts 135 

Capital and Surplus 95 

Carriers 297 

Cash 134, 159, 165, 185 

Cash Reserve 50, 56 

Cashiers 122 

Cattle 332 

Centralization 79 

Certificates of Stock 383 

Certification 161 

Checks 54, 82, 148, 150, 154, 157, 161 

Checks, Presentation of 157 

Circulation 19, 61, 63, 136 

City Collection Records 228 

City Department 244 

City Numbers 238 

Classification of Money 160 

Clearing Checks 82 

Clearing House Examinations 250 

Clearing House Functions 244, 249 

Clearing House Numbers 237 

Clearing House Settlements 156 

Clearing House Statements 246 

Clearing Houses 242 

Coin, Shipment of. ... . 442 



STANDARD BANKING 467 

Collateral 318, 324 

Collateral Loans 174, 258, 279 

Collection of Checks 82 

Collection of Trade Acceptances 372 

Collection Record 180 

Collection Records, City 228 

Collections 82, 176, 218, 220, 233 

Commercial Banks 93 

Commercial Credit 348 

Commercial Letters of Credit 177, 355, 445, 462 

Commercial Loans 267, 269 

Commercial Paper 259 

Commission Merchants 282 

Commodity Money 18, 22 

Commodity Paper 319 

Common Carriers 297 

Common Stock 380 

Computation of Reserve 179, 181 

Conservator of Money Market 84, 426 

Conservators 104 

Conversion 286 

Contingent Liabilities 141 

Contract 280 

Contraction of Loans 263 

Correspondents 219. 234 

Cotton 320, 327 

Cotton Exchanges 328 

Cotton Exporters 327 

Cotton Futures Act 330 

Cotton Loans 320 

Cotton Merchants 327 

Cotton Tickets 323 

Counter Cash . 159 

Credit .44, 248, 255, 269, 273, 317 

Credit Analysis 376 

Credit Instructions 269 



468 STANDARD BANKING 

Currency 27, 38, 61, 80, 160 

Currency Principle 419 

Current Assets 270 

Current Liabilities 271 

Customers 154, 216 

Customers' Liability 130 

Cycles, Seasons and 64 

Dairy Cattle 332 

Default 287 

Deferred Payments 10, 44 

Delivery 282 

Demand Deposits 137 

Demand and Supply 13, 22 

Demand for Money 13 

Demand Notes 32 

Deposit Currency 61, 80 

Deposit Function 424 

Deposit Tickets 147 

Depositors 153, 163, 166 

Deposits 60, 63, 116, 137, 145, 148, 170, 424 

Development of Acceptances 349 

Development of Banking 89, 91 

Direct Advertising 204 

Directors 77, 120 

Discount Market 447 

Discount Operations 47 

Discount Register 176 

Discounts 172, 173 

Dollar Exchange 352 

Dollar, Gold 18, 31 

Dollar, Silver 31 

Domestic Acceptance 362 

Drainage Bonds 401 

Due to Banks 137 

Edge Act 457 

Elasticity 27, 80, 81, 439 



STANDARD BANKING 469 

Elasticity of Currency 80, 439 

Elevator Receipts 318 

Endorsements (See Indorsements) 

Equipment Bonds 399 

Examinations 191, 195, 196, 260 

Exchange 9, 225, 352, 443 

Exchange Charges 225 

Exchanges 247, 328 

Executors 102 

Export Credit 461 

Exportation Acceptance 360 

False Bills 300 

Farm Loan Act 341 

Farm Loan Associations 342 

Federal Farm Loan Act 341 

Federal Farm Loan Board . . 341 

Federal Land Banks 341 

Federal Reserve Act , 41, 76, 131 

Federal Reserve Bank Directors 77 

Federal Reserve Bank Notes 42, 82 

Federal Reserve Bank Organization 76 

Federal Reserve Banks 134, 233, 326, 354 

Federal Reserve Board 78 

Federal Reserve Notes 42, 82 

Federal Reserve Par Collection Plan 234 

Federal Reserve System 76, 77 

Feeder Loans 339 

Fiduciary Corporations 100 

Fiduciary Functions 101 

Fiduciary Standard Money 24 

Figuring Reserves 179, 181 

Financial Terms 407 

Financing Exports of Cotton 327 

First U. S. Bank 85 

Fiscal Agents 83, 108 

Fluctuation in Foreign Exchange Rates 452 



470 STANDARD BANKING 

Fluctuation in Rates 452 

Foreign Coins 31 

Foreign Collection Records 231 

Foreign Collections 176, 230 

Foreign Credits 443 

Foreign Exchange 443 

Foreign Trade Financing 457 

Foreign Trade Financing Corporations 457 

Forms : 

Bankers' Acceptance 351 

Bond and Mortgage Record 133 

Boston Form of Individual Ledger 168 

Collection Record 180 

Discount Register 176 

Letter of Credit 182 

Liability Record 178 

Loan Card 174 

Paying Teller's Proof 158 

Stock and Bond Record 132 

Teller's Proof 152 

Trade Acceptance 370 

Fractional Currency 38 

French Banking System 429 

Full Paid Stock 382 

Furs 9 

General Ledger 141 

Ginning of Cotton 322 

Gold Certificates 35 

Gold Coins 17, 18, 31 

Gold Market 454 

Gold Settlement Fund , 83, 232 

Goods Lost in Transit 304 

Government Depositary 83 

Grain 313, 316 

Grain Elevators 312 

Grain Exchanges 315 



STANDARD BANKING 471 

Grain Loans 316 

Greenbacks 25, 33 

Gresham's Law 20 

Guardians 104 

Hedging 329 

Human Wants 8 

Hypothecation 286 

Import Credits 461 

Importation Acceptance 358 

Inconvertible Paper Money 21 

Independent Treasury System 92 

Indirect Advertising 205 

Individual Ledgers 166, 167 

Indorsements 226, 295 

Industrial Bonds 398 

International Exchange 442 

Investment Value 365 

Investments 111,130 

Issuance of Bonds 402 

Joint Accounts 113 

Joint-Stock Land Banks 345 

Kinds of Money 29 

Land Banks 341 

Legal Reserves 59 

Legal Tender 28, 33 

Letter of Credit Record 182 

Letters of Credit 177, 356 

Liabilities 128, 141, 271 

Liabilities of Endorsers 295 

Liabilities of Pledgee 284 

Liabilities of Pledgor 283 

Liability Record 176, 178, 179 

Liability of Warehousemen 293 

Lien 228, 296 

Limitation of Right of Issue 420 

Limitations of Barter 7 



472 STANDARD BANKING 

• 

Line Companies 313 

Lines of Credit _ , . . 255 

Liquid Assets 254 

Liquid Loans 256 

Liquidation 276 

Liquidation of Assets 275 

Liquidity of Assets 97 

Liquidness of Assets 254 

Liquidness of Loans 256 

Liquidness 266 

Livestock Loans 331 

Loan Card 174 

Loan Equilibrium 262 

Loan Function 424 

Loan Limitation 98 

Loan Securities 261 

Loans : 

Agricultural 311 

Cattle, Ranch 334 

Collateral 258, 279 

Commercial 267, 269 

Contraction of 263 

Cotton 320, 325, 327 

Equilibrium of 262 

Farm, How Obtained 343 

Feeder 339 

Grain 316 

Liquidness of 256 

Livestock 331 

Method 172 

Payment of 268 

Ranch Cattle 334 

Securities, On 261 

Steer 336 

Stocker 335 

Loans and Discounts 129, 172, 253 



STANDARD BANKING 473 

Loans on Cotton 325 

Lost Goods 304 

Lost Pass-Books 118 

Mail 151 

Market for Gold 454 

Market Price 14 

Marketing Cotton 322 

Marketing Grain 313 

Maturity Tickler 175 

Meaning of Money 9 

Measure of Value 10 

Medium of Exchange 9 

Method of Proof 171 

Money: 

Classification of 160 

Commodity 18, 22 

Demand for 13 

Durability of 27 

Elasticity of 27, 80 

Function of 12 

Gold Coin 18 

Inconvertible Paper 21 

Kinds of 22 

Legal * 28 

Markets 64 

Meaning of 9 

Paper (See Paper Money) 

Prices and 19 

Quantity Theory of 16 

United States Money 29 

Value of 12, 60 

Money Markets 64 

Monometallic Standard 23 

Movement of Commodities 450 

Municipal Bonds 394 

National Farm Loan Associations 342 



474 STANDARD BANKING 

National Bank Notes 39, 96, 98 

National Banks 93, 95, 97 

New Business 212 

Newspaper Advertising 206 

No-Protest Instructions 240 

Nominal Accounts 135 

Non-Standard Money 22 

Note Issue 420 

Notify on Order Bills 307 

Numerical System 235 

Officers 120 

Official Reports 126 

Open Market Purchases of Acceptances 364 

Operation of Banks 120 

Order Bills of Lading 299, 303, 307 

Over-certification 162 

Overdrafts 129 

Paper Money: 

Federal Reserve Bank Notes . . 42 

Federal Reserve Notes 42 

First Paper Money 32 

Gold Certificates 35 

Gold Coin and Paper Money 18 

Greenbacks 25, 33 

Inconvertible 21 

Legal Tender 33 

National Bank Notes 39 

Silver Certificates 36 

Treasury Notes 37 

United States Notes 33 

Par Collection Plan 234 

Pass-Books 115, 118 

Paying Tellers 153 

Paying Teller's Proof 158 

Peel Act 417 

Personal Property 280 



STANDARD BANKING 475 

Pledge 279 

Pledgee 279, 284, 305 

Pledgor 279, 283 

Postal Savings Banks 119 

Preferred Stock 381 

Presentation of Bills 447 

Presentation of Checks 157 

Presentment 222 

Presentment for Payment 222 

Presidents 121 

Prices and Money 19, 60 

Promissory Notes 46 

Prompt Returns 220 

Proof 171 

Public Utility Bonds 397 

Publicity 202 

Purpose of Reserves 179 

Quantity Theory of Money 16 

Quantity Theory of Gold Coin 17 

Questions, Bank Examination .......'. 199 

Questions, Stock and Bond Test 410 

Railroad Bonds 395 

Ranch Cattle 334 

Rate of Exchange 455 

Rate of Turnover T 15 

Ratio of Collections to Maturities 277 

Ratio of Current Assets to Liabilities 275 

Real Estate 131 

Receivers 109 

Receiving Tellers 146 

Reclamation Bonds 401 

Redelivery 286 

Redemption Fund 43, 134 

Rediscounts 138 

Registrars 106 

Reports, Bank 126 



476 STANDARD BANKING 

Requirements of Reserve 183 

Reserve Banks 266, 267 

Reserve Funds 80 

Reserve Requirements . 183 

Reserves : 

Adjustments of 262 

Bank 12 

Cash 50, 134, 159 

Centralized and Mobilized 79 

Considerations 58 

Distribution of 80 

Figuring of 179 

Items, Explanation of 184 

Kinds of 56 

Legal 59 

Relationship of Circulation to 63 

Secondary 57 

Requirements 183 

Resources 127, 129 

Restrictive Indorsements 226 

Right of Lien 228 

Right of Pledgee 284, 286, 287 

Right of Pledgor 283 

Sales ■ 277 

Savings Bank Accounts 113 

Savings Banks 112 

Seasonal Demands 64, 440, 451 

Seasons and Cycles 64 

Second U. S. Bank 87 

Secondary Reserves 57 

Securities, Loan on 261 

Security, Elements of 409 

Security of Notes 423 

Service of Stock Exchanges 405 

Settlement of Trade 443 

Settlement Sheet 151 



STANDARD BANKING 477 

Settling Agents 444 

Settling Balances 248 

Shares Without Par Value 384 

Sherman Act 37 

Shippers' Load and Count 306 

Shipment of Coin 442 

Shipments of Gold 453 

Shipping Costs 451 

Signatures 163 

Silver Certificates 35 

Silver Coins 31, 32 

Soliciting Business 213 

Sorting Checks 150 

Spent Bills 302 

Stability of Value 10 

Standard, Gold .. . 453 

Standard Money 18, 22, 24 

Standard, Paper Money 454 

Standard, Silver 453 

State Banks 89, 99 

State Numbers 238 

Stale Checks 148 

Statement of Account 171 

Statement of Bank Loans 268 

Statements of Borrowers 272 

Statements of Condition 272 

Steer Loans 336 

Sterling Credits 460 

Stock and Bond Record 132 

Stocks and Bonds 379 

Stock Certificates 383 

Stock, Classification of 380 

Stock, Common 380 

Stock Exchanges 405 

Stock, Full-Paid 383 

Stock. Preferred 381 



478 STANDARD BANKING 

Stock Savings Banks 113 

Stock, Treasury 383 

Stock Transfer Agents 386 

Stock Test Questions 410 

Stocker Loans 335 

Storehouse of Value 10 

Subsidiary Silver 32 

Suffolk System 90 

Supervision 191 

Summary of General Ledger 141 

Syndicates, Bond Selling 404 

Systems of Banking 415 

Telegraph Non-Payment 242 

Tellers 144, 146, 152, 164 

Tellers' Blotters 164 

Teller's Proof 152 

Tender 28, 33 

Terms, Financial 407 

Terms of Letters of Credit 387 

Test Questions 410 

Theory of Gold Coin 17 

Theory of Money 16 

Thrift 112 

Tickler 175 

Timber Bonds 400 

Time Deposits 137 

Titles, Gurantee of 102 

Tobacco 9 

Trade Acceptances 368, 376, 378 

Trade, Centre of . . 456 

Trade, Foreign 457 

Trade, Settlement of 443 

Transfer Agents 106 

Transfer, Methods of , 393 

Transfer of Stock 385 

Transfer, French System of 434 



STANDARD BANKING 479 

Transit Department 230 

Transit, Goods Lost in 304 

Transmission of Funds 442 

Treasurers 109 

Treasury Notes 37 

Treasury System . 92 

Treasury Stock 383 

Trust Certificates 384 

Trust Companies 100, 110 

Trust Funds Ill 

Trusteeships 103 

Turnover, Rate of 15 

Underwriting Syndicates 404 

Uniform Bills of Lading Act 297 

Uniform Warehouse Receipts Act 288 

Unit Tellers 164 

United States Banks 85, 87 

U. S. Cotton Futures Act 330 

United States Money 29 

United States Notes 25, 33 

United States Postal Savings Act - 119 

Universal Numerical System «... 235 

Use of Trade Acceptances 373 

Utility Bonds, Public 397 

Value, Measure of 10 

Value, Stability of 26 

Value, Storehouse of 11 

Value of Money 12 

Voting Trust Certificate 384 

Wampum Beads 9 

Wants, Human 8 

Warehouse Receipts 288, 291, 296, 318 

Warehousemen 288, 291, 293, 296 

Warehousemen's Liability 293 

Warehousemen's Liens 296 

Warehouses 312, 325 



480 STANDARD BANKING 

Warranties 295 

Warranty 227 

What Bonds Are 387 

Withdrawals 117 

Withholding Delivery Until Payment 448 

World's Banker 463 



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